F O R M 20 - F
                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

[  ]     REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE
         SECURITIES EXCHANGE ACT OF 1934

                                       OR

[X]      ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
         EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2003

                                       OR

[  ]     TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
         EXCHANGE ACT OF 1934

For the transition period from ________ to ________ Commission file number:
005-52583

                           BLUEPHOENIX SOLUTIONS LTD.
             (Exact Name of Registrant as Specified in Its Charter)

                                     Israel
                 (Jurisdiction of Incorporation or Organization)

                     8 Maskit Street, Herzlia 46120, Israel
                    (Address of Principal Executive Offices)

 Securities registered or to be registered pursuant to Section 12(b) of the Act:

                                      None

 Securities registered or to be registered pursuant to Section 12(g) of the Act:
                       Ordinary shares, NIS 0.01 par value
                                (Title of Class)

 Securities for which there is a reporting obligation pursuant to Section 15(d)
                                   of the Act:
                       Ordinary shares, NIS 0.01 par value
                                (Title of Class)

Indicate the number of outstanding shares of each of the issuer's classes of
capital or common stock as of December 31, 2003:

                 13,484,276 Ordinary shares, NIS 0.01 per share

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.

                                  Yes X No ___

Indicate by check mark which financial statement item the registrant has elected
to follow.

                             Item 17 ___  Item 18 X
                                                 ---

<PAGE>

                                    P A R T I
                                   ===========


         Some of the statements in this annual report, including those in the
Risk Factors, Operating and Financial Review and Prospects, and Business
Overview sections, are forward-looking statements that involve risks and
uncertainties. These forward-looking statements include statements about our
plans, objectives, strategies, expectations, intentions, future financial
performance, and other statements that are not historical facts. We use words
like "anticipates", "believes", "expects", "future", "intends", and similar
expressions to mean that the statement is forward-looking. You should not unduly
rely on these forward-looking statements, which apply only as of the date of
this annual report. Our actual results could differ materially from those
anticipated in the forward-looking statements for many reasons, including the
risks described under Risk Factors.

         As used in this annual report, references to "we", "our", "ours" and
"us" refer to BluePhoenix Solutions Ltd. and its subsidiaries, unless otherwise
indicated. References to "BluePhoenix" refer to BluePhoenix Solutions Ltd.

         The name BluePhoenix(TM) and the names BluePhoenix(TM) IT Discovery,
BluePhoenix(TM) LogicMiner, BluePhoenix(TM) PowerText, BluePhoenix(TM)
DBMSMigrator, BluePhoenix(TM) PlatformMigrator, BluePhoenix(TM)
LanguageMigrator, BluePhoenix(TM) DataMigrator, BluePhoenix(TM) eXperanto,
BluePhoenix(TM) Remediator, BluePhoenix(TM) GTIN/UPCEnabler, BluePhoenix(TM)
EuroEnabler, BluePhoenix(TM) LiraEnabler and BluePhoenix(TM) AppBuilder
appearing in this annual report are trademarks of our company. Other trademarks
in this annual report are owned by their respective holders.





                                       1

<PAGE>

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

Not applicable.


ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

Not applicable.


ITEM 3. KEY INFORMATION

A.       Selected Financial Data

         The following tables present our consolidated statement of operations
and balance sheet data for the periods and as of the dates indicated. We derived
the statement of operations data for each of the years ended December 31, 2001,
2002 and 2003 and the balance sheet data as of December 31, 2002 and 2003 from
our consolidated financial statements included in Item 18 of this annual report,
which have been prepared in accordance with generally accepted accounting
principles as applied in the United States, or U.S. GAAP. Our consolidated
financial statements have been audited by Ziv Haft certified public accountants
(Isr.) BDO member firm. The selected consolidated financial data as of December
31, 1999, 2000 and 2001 and for the years ended December 31, 1999 and 2000 is
derived from our audited financial statements not included in this annual
report, which have been prepared in accordance with U.S. GAAP. You should read
the selected consolidated financial data set forth below together with our
consolidated financial statements included elsewhere in this annual report. See
"Item 5. Operating and Financial Review and Prospects."



                                       2

<PAGE>

<TABLE>
<CAPTION>

                                                                          Year Ended December 31,
                                                     ------------------------------------------------------------
                                                       2003         2002         2001         2000         1999
                                                                                  $
                                                                                 ---
<S>                                                 <C>          <C>          <C>          <C>          <C>
Consolidated Statements of Operations Data:                      (in thousands, except per share data)
Revenues                                             $ 54,340     $ 36,668     $ 38,438     $ 49,245     $ 45,907
Cost of revenues                                       24,115       15,220       17,722       20,065       20,924
                                                     --------     --------     --------     --------     --------
Gross profit                                           30,225       21,448       20,716       29,180       24,983
Software development costs                              8,138        7,387        8,868        9,487        6,037
Selling, general, and administrative expenses          20,140       13,245       19,794       17,461        9,567
                                                     --------     --------     --------     --------     --------
                                                        1,947          816       (7,946)       2,232        9,379
Goodwill impairment, restructuring costs, and
    non-recurring expenses                               --            472        4,467         --           --
                                                     --------     --------     --------     --------     --------
Operating income (loss)                                 1,947          344      (12,413)       2,232        9,379
Financial income (expenses), net                          165         (195)         (62)       1,370        1,020
Gain on realization of shareholdings                      376         --            693        2,444         --
Other income (expenses), net                              567       (1,581)      (2,649)          66          (69)
                                                     --------     --------     --------     --------     --------
Income (loss) before taxes on income                    3,055       (1,432)     (14,431)       6,112       10,330
Income tax expense                                        152          160          115          184          646
                                                     --------     --------     --------     --------     --------
                                                        2,903       (1,592)     (14,546)       5,928        9,684
Equity in losses of affiliated companies, net            (898)      (1,336)      (1,304)      (1,114)        (843)
Minority interest                                        (154)        (702)         863       (1,700)        (876)
                                                     --------     --------     --------     --------     --------
Net income (loss)                                    $  1,851     $ (3,630)    $(14,987)    $  3,114     $  7,965
                                                     ========     ========     ========     ========     ========

Basic earning (loss) per share                       $   0.14     $  (0.35)    $  (1.52)    $   0.31     $   0.81
Diluted earnings (loss) per share                    $   0.14     $  (0.35)    $  (1.52)    $   0.30     $   0.79

Weighted average of Shares outstanding                 13,451       10,517        9,872       10,149        9,802
Weighted average of Shares outstanding assuming
  dilution                                             13,644       10,517        9,872       10,363       10,106

<CAPTION>

                                                                              December 31,
                                                    --------------------------------------------------------------
                                                       2003         2002         2001         2000         1999
                                                       ----         ----         ----         ----         ----
<S>                                                 <C>          <C>          <C>          <C>          <C>
Consolidated Balance Sheet Data:                                 (in thousands)
Working capital                                      $    246     $  1,310     $  9,901     $ 29,961     $ 35,266
Total assets                                           80,820       87,481       54,667       69,137       68,099
Total liabilities                                      35,422       40,760       19,410       17,728       20,355
Shareholders' equity                                   45,398       46,721       35,257       51,409       47,744
</TABLE>


B.       Capitalization and Indebtedness

Not applicable.

C.       Reasons for the Offer and Use of Proceeds

Not applicable.


                                       3

<PAGE>

D.       Risk Factors

         Our business, operating results, and financial condition could be
seriously harmed due to any of the following risks. In addition, the trading
price of our ordinary shares could decline due to any of these risks.

Capital spending on information technology, or IT, solutions has declined
significantly. This global trend affected our operating results. If IT spending
continues to slow down, our business might be seriously harmed.

       We have been affected by global economic changes, in particular the sharp
decline in capital spending in the information technology sector and the overall
business slow-down in North America and Europe, as well as in Israel.
Uncertainties in the North American and European markets have influenced the
purchasing patterns of leading software developers who delayed their planned
orders and caused developers to reduce the amount of their planned license
commitment. These changes in purchasing patterns in the IT industry directly
affect our operating results. Our revenues decreased from $49.2 million in 2000
to $38.4 million in 2001 and to $36.7 million in 2002. In 2003, as a result of a
slight recovery of the market, and the impact of a strategic acquisition we
completed, this trend changed, and our revenues increased to $54.3 million.
However, due to the overall business slow-down and in particular, the IT
business slow-down, we cannot assure you that we will be able to continue
increasing our revenues or keep our revenues at the same level as in 2003. We
cannot know whether the global market will recover in the future, and how the
economic conditions will continue to affect our business.

If we fail to successfully continue integrating Liraz's business with our own,
our operating results may be adversely affected.

         In March 2003, we completed the acquisition of the entire outstanding
share capital of Liraz Systems Ltd., an Israeli company then publicly-traded on
the Tel Aviv Stock Exchange, or the TASE. While we have already concluded the
integration of Liraz's infrastructure, management, personnel and sales and
marketing activities within our business, we are still in the process of
integrating Liraz's technology, products, service offerings, and research and
development activities. We expect that as a result of the integration of our
business with that of Liraz, the combined companies will be able to realize
greater operating efficiencies and will benefit from a broader product line with
a larger and more diversified marketing and support network. In addition, we
anticipate that the combination of our respective technical personnel will
enhance our product development capabilities. The achievement of these benefits
depends, however, on our ability to successfully complete the integration of
Liraz's business in our business. Difficulties in assimilating Liraz's business
could disrupt our ongoing business, distract our management and employees,
increase our expenses, and adversely affect our results of operations. We may
also encounter difficulties in penetrating markets in which we have no or
limited experience. We cannot assure you that we will be able to successfully
complete the integration of Liraz's business with our own. In addition, we
cannot assure you that the benefits we anticipate will occur as a result of
assimilating Liraz's business will contribute to our business to the extent
anticipated. This in turn may materially adversely affect our business,
financial condition and our quarterly and annual results of operations.


                                       4
<PAGE>

Any future acquisitions of companies or technologies may distract our management
and disrupt our business.

         As part of our growth strategy, we have been investing in and acquiring
control of various companies to expand our solution portfolio. We intend to
continue seeking investment opportunities. In addition, as part of our expansion
strategy, we increased our controlling interest in some of our subsidiaries and
fully integrated them within our business. We cannot assure you that we will be
able to identify future suitable acquisition or investment candidates, or if we
do identify suitable candidates, that we will be able to make the acquisitions
or investments on commercially acceptable terms or at all. If we acquire, invest
in, or increase our control interest in another company, we could have
difficulty assimilating that company's personnel, operations, technology, or
products and service offerings into our own. In addition, the key personnel of
the acquired company may decide not to work for us. These difficulties could
disrupt our ongoing business, distract our management and employees, increase
our expenses, and adversely affect our results of operations. Acquisitions of
new companies also involve the risk of penetrating markets in which we have no
or limited experience. We may incur indebtedness or issue equity securities to
pay for any future acquisitions. The issuance of equity securities could be
dilutive to our existing shareholders.

We have a limited operating history in our current principal markets, which will
make it difficult or impossible for you to predict our future results of
operations.

         We have experienced major fluctuations in our net results. In 2003, we
had net income of $1.9 million, while in 2002 and 2001 we had a net loss of $3.6
million and $15.0 million, respectively. The net loss in 2002 and 2001 was a
reversal from prior years in which we had net income. In 2000, our net income
was $3.1 million, in 1999, $8.0 million and in 1998, $9.3 million. The
fluctuations in our net results are mainly attributable to the changes in the
suite of modernization tools we have been offering to our customers, the limited
experience we have had in the markets for these tools, and the difficulties we
have encountered in introducing our tools to their respective markets. Most of
the solutions we offer to our customers are based on tools that share a common
generic technology and methodology. However, the introduction of new tools to
new markets involves increased selling and marketing expenses, which in turn
increases our operating expenses and directly affects our results of operations.
Until 1999, we derived substantially all of our revenues from the provision of
year 2000 conversion projects. In 1999, we began focusing on the development and
marketing of new automated software renovation tools. Our future profitability
depends on our ability to continue to successfully develop and market new
software modernization tools and solutions. We cannot assure you that the
markets for our new modernization solutions will develop or reach the size we
estimate or that our products and services will gain market acceptance. In
addition, we devote significant financial resources to the development of new
products. Our prospects must be considered in light of the risks and
difficulties frequently encountered by companies dependent upon operating
revenues from new product lines in emerging and rapidly evolving markets.
Because of our limited experience in our principal markets and with our new
products, we cannot assure you that our strategy for operating in these markets
or selling these products will be successful. You should not rely on our
historical results of operations as indications of future performance.

                                       5
<PAGE>

We may experience significant fluctuations in our annual and quarterly results,
which makes it difficult for our shareholders to make reliable period-to-period
comparisons and may contribute to volatility in the market price for our
ordinary shares.

       Our quarterly and annual revenues, gross profits, and results of
operations have fluctuated significantly in the past and we expect them to
continue to fluctuate significantly in the future. These fluctuations are the
result of risks related to the introduction of new products as described above
and any of the following events:

       o      adverse economic conditions in various geographic areas where our
              customers and potential customers operate;

       o      acquisitions and dispositions of companies;

       o      timing of completion of specified milestones and delays in
              implementation;

       o      timing of product releases;

       o      timing of contracts;

       o      increases in selling and marketing expenses, as well as other
              operating expenses; and

       o      currency fluctuations.

       In addition, unexpected events that do not occur on a regular basis and
that are difficult to predict may cause fluctuations in our operating results.
As a result, we believe that period-to-period comparisons of our historical
results of operations are not necessarily meaningful and that you should not
rely on them as an indication for future performance. Also, it is possible that
our quarterly and annual results of operations may be below the expectations of
public market analysts and investors.

A delay in collection of our fees could result in cash flow shortages, which in
turn may significantly impact our financial results.

         Typical modernization projects, which deploy our solutions, are
long-term projects, and therefore, payment for these projects or a substantial
portion of our fees may be delayed until the successful completion of specified
milestones. In addition, the payment of our fees is dependent upon customer
acceptance of the completed work, and our ability to collect the fees. Further,
although the timing of receipt of our fees varies, we incur the majority of our
expenses on a current basis. As a result, a delay in the collection of our fees
could result in cash flow shortages. Any significant variation in estimated and
actual revenues obtained may significantly impact our financial results in any
given period.

                                       6
<PAGE>

Our ability to continue to develop and market the cross-platform products of our
subsidiary, Mainsoft, is dependent upon the continuation of Mainsoft's licensing
relationship with Microsoft.

         In August 1998, our subsidiary, Mainsoft Corporation, entered into a
Windows secure-code licensing agreement. Pursuant to this agreement and the
amendments thereto, Microsoft granted Mainsoft access to specified Microsoft
source code, including new versions, service packs, and upgrade releases for
Windows. Microsoft also granted Mainsoft distribution rights to the Windows
object code licensed as a component in Mainsoft's products. Mainsoft's ability
to continue to develop and market the cross-platform software solutions depends
upon these license and distribution rights granted by Microsoft to Mainsoft. If
Mainsoft's license agreement with Microsoft is terminated, our business, results
of operations, and financial condition may be seriously harmed.

         We anticipate that in the future, we will pursue a source code license
from Microsoft for any subsequent code we may benefit from. However, we cannot
assure you that we will be able to negotiate successfully any additional license
rights on a timely basis or at all, or that these license rights would be on
terms acceptable to us. If we are unable to develop future products under a
source code license agreement with Microsoft, we may encounter difficulties in
selling updated versions of our cross-platform products and as a result, our
business, results of operations, and financial condition could be materially
adversely affected.

         The rights that Microsoft granted to Mainsoft are non-exclusive. We
cannot assure you that Microsoft has not granted, or will not grant, similar or
more extensive rights to use its technology on similar or more favorable terms
to our existing or new competitors, which could have a material adverse effect
on our ability to market our cross-platform products. Furthermore, we cannot
assure you that Microsoft will not internally develop or otherwise acquire its
own cross-platform development solution, thereby becoming a direct competitor of
ours. The emergence of Microsoft as a direct or indirect competitor of ours
would intensify competition in the environment in which we operate.

         Under the license agreement between Mainsoft and Microsoft, Mainsoft
may request that Microsoft waive certain Microsoft royalties for particular
customers. In the past, Microsoft generally has granted these customers specific
royalty waivers. However, we cannot assure you that Microsoft will continue to
grant such waivers. An increase in royalties would require us to raise the
prices of specific products or reduce our gross margins, either of which could
harm our business.

         On February 13, 2004, there were public reports that a leak of
Microsoft source code had occurred on the Internet. These reports indicated that
the source code contained trace references to the Mainsoft servers and
personnel. Mainsoft's management team immediately adopted an open door policy of
full cooperation with local authorities, the FBI, and Microsoft in their
respective investigations. Mainsoft, through an internal investigation into the
leak, confirmed that the code had come from one of their servers but was most
likely extracted some time in 2001. All parties conducting investigations have
found no trace of a security breach after that date. According to the FBI, the
investigation is still active and they are proceeding with the investigation to
date.

                                       7
<PAGE>

         While Mainsoft believes its relationship with Microsoft will continue
on terms acceptable to us, a change in the relationship could materially
adversely affect our business, results of operations, and financial condition.

If we are unable to accurately predict and respond to market developments or
demands, our business will be adversely affected.

         The IT modernization business is characterized by rapidly evolving
technology and methodologies. This makes it difficult to predict demand and
market acceptance for our modernization tools and services. In order to succeed,
we need to adapt the tools and services we offer to keep up with technological
developments and changes in customer needs. We cannot guarantee that we will
succeed in enhancing our tools and services or developing or acquiring new
modernization tools and services that adequately address changing technologies
and customer requirements. We also cannot assure you that the tools and services
we offer will be accepted by customers. If our tools and services are not
accepted by customers, our future revenues and profitability will be adversely
affected. Changes in technologies, industry standards, the regulatory
environment, customer requirements, and new product introductions by existing or
future competitors could render our existing solutions obsolete and
unmarketable, or require us to enhance our current tools or develop new tools.
This may require us to expend significant amounts of money, time, and other
resources to meet the demand. This could strain our personnel and financial
resources.

If we fail to address the strain on our resources caused by changes in our
company, we will be unable to effectively manage our business.

         We have recently undergone significant changes in our product
offerings. This has placed and will continue to place substantial demands upon
our management, systems, and resources, including our sales, project management,
consulting personnel, and software development operations. These changes include
developing and marketing new modernization tools and expanding the sales of our
products further into the North American market. Our ability to manage any
future changes or growth depends on our ability to continue to implement and
improve our operational, financial, and management information control and
reporting systems on a timely basis, and to expand, train, motivate, and manage
our work force. If we cannot respond effectively to changing business
conditions, our business, financial condition, and results of operations could
be materially adversely affected.

If we are unable to attract, train, and retain qualified personnel, we may not
be able to achieve our objectives and our business could be harmed.

         In order to achieve our objectives, we may need to hire additional,
qualified software, administrative, operational, sales, and technical support
personnel. The process of attracting, training, and successfully integrating
qualified personnel can be lengthy and expensive. We may not be able to compete
effectively for the personnel we need. Our future success depends on our ability
to absorb and retain senior employees and to attract, motivate, and retain
highly qualified professional employees.


                                       8
<PAGE>

If we fail to estimate accurately the costs of fixed-price contracts, we may
incur losses.

         We derive a portion of our revenues from engagements on a fixed-price
basis. We price these commitments upon estimates of future costs. We bear the
risk of faulty estimates and cost overruns in connection with these commitments.
Our failure to accurately estimate the resources required for a fixed-price
project, to accurately anticipate potential wage increases, or to complete our
contractual obligations in a manner consistent with the project plan could
materially adversely affect our business, operating results, and financial
condition. In addition, we may agree to a price before the design specifications
are finalized, which could result in a fixed price that is too low, resulting in
lower margins or losses to us.

If our tools or solutions do not function efficiently, we may incur additional
expenses.

         In the past years, we have successfully used our software modernization
tools in numerous software renovation projects. In the course of providing our
modernization solutions, the project team conducts testing to detect the
existence of failures, errors and bugs. In addition, we have instituted a
quality assurance procedure for correcting errors and bugs in our tools. The
amount of failures, errors and bugs detected in modernization and transformation
projects to date, and the cost of correcting them, have not been significant.
However, if our modernization solutions fail to function efficiently or if
errors or bugs are detected in our tools, we might incur significant
expenditures in an attempt to remedy the problem. The consequences of failures,
errors, and bugs could have a material adverse effect on our business, operating
results, and financial condition.

If we fail to satisfy our customers' expectations regarding our solutions, our
contracts may be cancelled and we may be the subject of damages claims.

         In the event that we fail to satisfy our customers' expectations from
the results of the implementation of our solutions, or if we fail to timely
deliver our solutions to our customers, these customers may suffer damages. When
this occurs, customers can cancel our contracts. Any cancellation of a contract
could cause us to suffer damages, since we might not be paid for costs that we
incurred in performing services prior to the date of cancellation. In addition,
from time to time we may be subject to claims as a result of not delivering our
products on time or in a satisfactory manner. Such disputes or others may lead
to material damages.

We are exposed to significant claims for damage caused to our customers'
information systems.

         Some of the products, tools, and services we provide involve key
aspects of our customers' information systems. These systems are frequently
critical to our customers' operations. As a result, our customers have a greater
sensitivity to failures in these systems than do customers of other software
products generally. We have never been the subject of a material damages claim
related to our modernization solutions or modernization services. However, if a
customer's system fails during or following the provision of modernization
solutions or services by us, or if we fail to provide customers with proper
support for our modernization solutions, we are exposed to the risk of a claim
for substantial damages against us, regardless of our responsibility for the
failure. When possible, we limit our liability under our product and service

                                       9
<PAGE>


contracts. However, we cannot guarantee that these limitations of liability, if
any, would be sufficient to protect us against legal claims. We maintain
professional errors and omissions and general liability insurance coverage.
However, we cannot assure you that our insurance coverage will be sufficient to
cover one or more large claims, or that the insurer will not disclaim coverage
as to any future claim. If we lose one or more large claims against us that
exceed available insurance coverage, it may have a material adverse effect on
our business, operating results, and financial condition. In addition, the
filing of legal claims against us in connection with contract liability may
cause us negative publicity and damage to our reputation.

If third parties assert claims of infringement against us, we may suffer
substantial costs and diversion of management's attention.

         Substantial litigation over intellectual property rights exists in the
software industry. We expect that software products may be increasingly subject
to third-party infringement claims as the functionality of products in different
industry segments overlaps. Although our products and services have never been
the subject of an infringement proceeding, we cannot predict whether third
parties will assert claims of infringement against us. In addition, our
employees and contractors have access to software licensed by us from third
parties. A breach of the non-disclosure undertakings by any of our employees or
contractors may lead to a claim of infringement against us. Any claim, with or
without merit, could:

       o      be expensive and time-consuming to defend;

       o      divert management's attention and resources; or

       o      require us to enter into royalty or licensing agreements to obtain
              the right to use a necessary product or component.

         Royalty or licensing agreements, if required, may not be available on
acceptable terms, if at all. A successful claim of product infringement against
us and our failure or inability to license the infringed or similar technology
could have a material adverse effect on our business, financial condition, and
results of operations.

We may be unable to adequately protect our proprietary rights, which may limit
our ability to compete effectively.

         Our success and ability to compete are substantially dependent upon our
internally developed technology. Most of our intellectual property consists of
proprietary or confidential information that is not subject to patent or similar
protection. Our employees and contractors have direct access to our technology.
In general, we have relied on a combination of technical leadership, trade
secret, copyright, and trademark law and nondisclosure agreements to protect our
proprietary know-how. Unauthorized third parties may attempt to copy or obtain
and use the technology protected by those rights. Any infringement of our
intellectual property could have a material adverse effect on our business,
financial condition, and results of operations. Policing unauthorized use of our
products is difficult and costly, particularly in countries where the laws may
not protect our proprietary rights as fully as in the United States. We have
placed, and in the future may place, certain of our software in escrow. The
software may, under specified

                                       10
<PAGE>

circumstances, be made available to our customers. We have also provided our
software directly to customers. This may increase the likelihood of
misappropriation or other misuse of our software.

We are exposed to litigation that could result in considerable financial
liabilities.

         In July 2003, a former Liraz shareholder filed an application with the
Tel-Aviv - Jaffa District Court to approve a claim filed by him against us, as a
class action. The claim relates to the acquisition of Liraz shares, which we
completed in March 2003. The shareholder alleges that the share price we paid to
Liraz's shareholders in the tender offer and in a subsequent mandatory purchase
was lower than the fair price of Liraz shares. The maximum amount of the claim
is approximately $5.8 million in the aggregate. Under Israeli law, the court's
approval is required for the plaintiff to represent all of the shareholders of
Liraz who sold their shareholdings to us pursuant to the tender offer and the
mandatory acquisition. The plaintiff has applied for such approval in the
lawsuit. A preliminary hearing is scheduled for October 2004. Our management
believes that the claim is without merit. However, if we are not successful in
defending this claim, we could be exposed to considerable financial liabilities
and as a result, our financial condition could be materially adversely harmed.

Our largest shareholder, Formula, controls a majority of our ordinary shares and
influences the outcome of matters that require shareholder approval.

         Formula Systems (1985) Ltd. owns, as of May 21, 2004, 58.6% of our
outstanding ordinary shares. Therefore, Formula has the power to control the
outcome of most matters requiring shareholder approval, including the election
of directors and approval of significant corporate transactions. In addition,
Dan Goldstein, a member of our board of directors and chairman of the board of
Formula, and Gad Goldstein, the chairman of our board and a director, president,
and chief executive officer of Formula, own, in the aggregate, 755,138 ordinary
shares, representing 5.5% of our outstanding ordinary shares. These individuals
have entered into agreements that require them to vote their shares as
instructed by Formula. Accordingly, Formula is deemed to beneficially own
approximately 64.2% of our outstanding ordinary shares.

         This share ownership may have the effect of delaying or preventing a
change in control. In addition, potential conflicts of interest may arise in the
event that we enter into agreements or transactions with these persons. Although
Israeli law imposes certain procedures (including shareholder approval) for
approval of certain related party transactions, including certain of those
between us and Formula, we cannot assure you that these procedures will
eliminate the possible detrimental effects of conflicts of interest. Our two
independent directors constitute a majority of the members of our audit
committee. The audit committee reviews potential conflict of interest situations
where appropriate. If certain transactions are not approved in accordance with
required procedures under applicable Israeli law, these transactions may be void
or voidable.

The market price of our ordinary shares may be volatile and our investors may
not be able to resell their shares at or above the price they paid, or at all.

         The stock market in general has recently experienced extreme price and
volume fluctuations. The market prices of securities of technology companies
have been extremely

                                       11
<PAGE>

volatile, and have experienced fluctuations that have often been unrelated or
disproportionate to the operating performance of those companies. These broad
market fluctuations could adversely affect the market price of our ordinary
shares. During 2002, for example, the market price of our ordinary shares traded
on the NASDAQ fluctuated between $4.15 and $2.00, and during 2003, the market
price of our ordinary shares fluctuated between $7.04 and $2.10. The market
price of our ordinary shares may fluctuate substantially due to a variety of
factors, including:

       o      any actual or anticipated fluctuations in our or our competitors'
              quarterly revenues and operating results;

       o      shortfalls in our operating results from levels forecast by
              securities analysts;

       o      public announcements concerning us or our competitors;

       o      the introduction or market acceptance of new products or service
              offerings by us or by our competitors;

       o      changes in product pricing policies by us or our competitors;

       o      changes in security analysts' financial estimates;

       o      changes in accounting principles;

       o      sales of our shares by existing shareholders; and

       o      the loss of any of our key personnel.

         In addition, economic, political, and market conditions and military
conflicts and in particular, those specifically related to the State of Israel,
may affect the market price of our shares.

Future sales of our shares in the public market or issuances of additional
securities could cause the market price for our ordinary shares to fall.

         As of May 21, 2004, we had 13,522,139 ordinary shares outstanding
(excluding 1,870,565 held by two of our wholly owned subsidiaries). In addition,
we have reserved 2,467,500 ordinary shares for issuance under our option plans.
We also have certain commitments described below to issue BluePhoenix ordinary
shares and register them for resale.

         We have made a commitment to purchase from First Israel Mezzanine
Investors Ltd., known as FIMI, promissory notes issued by Intercomp Ltd., one of
our affiliates, in an aggregate principal amount of $3.5 million plus interest
accrued since January 2001 at an annual rate of 5%. Of the principal amount of
such promissory notes, $2.33 million plus the interest accrued may be paid,
subject to FIMI's approval, in BluePhoenix's ordinary shares. We also undertook
to issue FIMI warrants to purchase up to 336,000 BluePhoenix's ordinary shares.
We also agreed to register the shares underlying FIMI's option for resale. Under
certain circumstances, we are obliged to register for resale the shares
underlying FIMI's warrants.


                                       12

<PAGE>

For more information about the option and warrants granted to FIMI, see "Item
5.B. Liquidity and Capital Resources--Contractual Commitments and Guarantees."

         As part of a $5 million private placement we completed on March 30,
2004, we issued to each of the participating four institutional investors,
convertible debentures and warrants exercisable into BluePhoenix's ordinary
shares. If all such debentures, including interest, are converted into
BluePhoenix's ordinary shares and the warrants are fully exercised, we would be
required to issue to the investors up to 1,708,411 ordinary shares, subject to
adjustments. Under certain circumstances, the investors are entitled to purchase
additional convertible debentures and warrants, which if converted and exercised
in full, would increase the number of issued shares by an additional 1,025,047
ordinary shares. In connection with the private placement, we agreed to file a
registration statement for the resale of the ordinary shares underlying the
convertible debentures and warrants.

         For more information about the $5 million private placement, see "Item
6.E. Share Ownership--Arrangements Involving the Issue of Blue Phoenix' Shares
or Grant of Options to Purchase Shares--Convertible Debentures and Warrants
Purchased by Institutional Investors."

         In addition, certain of our shareholders, holding in the aggregate
10,468,972 ordinary shares, have registration rights with respect to the shares
they hold, including piggyback rights.

         If a large number of our ordinary shares are sold in a short period,
the price of our ordinary shares would likely decrease.



We do not intend to pay dividends.

         BluePhoenix has never declared or paid cash dividends on its ordinary
shares. We currently intend to retain any future earnings to finance operations
and to expand our business, and therefore do not expect to pay any cash
dividends in the foreseeable future.


Risks relating to International Operations

Marketing our tools and solutions in international markets may cause increased
expenses and greater exposure to risks that we may not be able to successfully
address.

         We intend to continue to expand our international operations, which
will require significant management attention and financial resources. In order
to continue to expand worldwide sales, we need to establish additional marketing
and sales operations, hire additional personnel and recruit additional resellers
internationally. To the extent that we are unable to do so effectively, our
growth is likely to be limited and our business, operating results and financial
condition will be materially adversely affected.

         Additional risks inherent in our worldwide business activities
generally include unexpected changes in regulatory requirements, tariffs and
other trade barriers, costs of localizing products for foreign countries, lack
of acceptance of localized products in foreign

                                       13
<PAGE>

countries, longer accounts receivable payment cycles, difficulties in operations
of management, potentially adverse tax consequences, including restrictions on
the repatriation of earnings, and the burdens of complying with a wide variety
of foreign laws. We cannot assure you that these factors will not have a
material adverse effect on our future international sales and, consequently, on
our business, operating results and financial condition.

Fluctuations in foreign currency values affect the prices of our products, which
in turn may affect our business and results of operations.

         Most of our worldwide sales are currently denominated in dollars. A
decrease in the value of the dollar relative to foreign currencies, in
particular the euro, Danish kroner (DKK) and the new Israeli shekel (NIS) would
make our products more expensive and increase our operating costs and,
therefore, could adversely affect our results and harm our competitive position
in the markets.

We are subject to multiple taxing jurisdictions. If we fail to estimate
accurately the amount of income tax due in any of these jurisdictions, our net
income might be affected.

         We operate within multiple taxing jurisdictions and are subject to
taxation by these jurisdictions at rates higher than those to which we are
subject in Israel. In addition, we may be subject to audits in these
jurisdictions. These audits can involve complex issues, which may require an
extended period of time to resolve. In our management's opinion, we have made
adequate provisions for income taxes for all past years. Although our management
believes that its estimates are reasonable, we cannot assure you that the final
tax outcome of these issues will not be different than those, which are
reflected in our historical income tax provisions. Such differences could have a
material effect on our income tax provision and net income in the period in
which such outcome occurs.


Risks Relating to Operations in Israel

Political, economic, and military conditions in Israel could negatively impact
our business.

         We are incorporated under the laws of the State of Israel, and certain
of our key management personnel as well as certain of our research and
development facilities are located in Israel. Although we generate most of our
revenues from international markets, we nonetheless are influenced by the
political, economic and military conditions affecting Israel. Major hostilities
involving Israel or the interruption or curtailment of trade between Israel and
its present trading partners could have a material adverse effect on our
business, operating results and financial condition. Furthermore, several
countries restrict business with Israeli companies. In addition, all nonexempt
male adult citizens of Israel, including some of our officers and employees, are
obligated to perform military reserve duty and are subject to being called for
active duty under emergency circumstances. While we have operated effectively
under these requirements since our incorporation, we cannot predict the full
impact of such conditions on us in the future, particularly if emergency
circumstances occur. If many of our employees are called for active duty, our
operations in Israel and our business may be adversely affected.

                                       14
<PAGE>

The tax benefits available to us from government programs may be discontinued or
reduced at any time, which would likely increase our taxes.

         We receive tax benefits under Israeli government programs, particularly
as a result of the "Approved Enterprise" status of certain of our operations in
Israel. To maintain our eligibility for these programs and benefits, we must
continue to meet specified conditions. If we fail to comply with these
conditions in the future, the benefits received could be canceled and we could
be required to pay increased taxes. We cannot assure you that these programs and
tax benefits will continue at the same level in the future. If these tax
benefits and programs are terminated or reduced, we could pay increased taxes in
the future, which could decrease our profits.

It may be difficult to serve process and enforce judgments against our directors
and officers in Israel.

         We are organized under the laws of the State of Israel. Most of our
executive officers and directors are nonresidents of the United States, and a
substantial portion of our assets and the assets of these persons are located
outside the United States. Therefore, it may be difficult to enforce a judgment
obtained in the United States against us or against any of those persons. It may
also be difficult to enforce civil liabilities under United States federal
securities laws in actions instituted in Israel.


ITEM 4. INFORMATION ON THE COMPANY

A.       History and Development of the Company

         We were incorporated in Israel in 1987 under the name A. Crystal
Solutions Ltd. In 1996, we changed our name to Crystal Systems Solutions Ltd. In
2003, following the acquisition of Liraz Systems Ltd., we changed our name to
BluePhoenix Solutions Ltd. Our registered office is located at 8 Maskit Street,
Herzlia, 46120 Israel and our telephone number is 972-9-9526110. Our agent in
the United States is Blue Phoenix Solutions USA Inc., 8000 Regency Parkway,
Cary, NC 27511 United States and its telephone number is (919) 380-5100.

         Prior to the acquisition of Liraz, we conducted our international
operations through our wholly owned subsidiaries, Crystal America Inc., in the
United States, and Crystal Europe (1999) B.V., in Europe.

         In 2002, we acquired control of Liraz Systems Ltd. In 2003, we
completed the acquisition of the remaining outstanding share capital of Liraz.
Since 2002, we have run our worldwide operations through several additional
wholly owned subsidiaries, named below:

         Name of Subsidiary                            Country of Incorporation
         --------------------------------              ------------------------
         BluePhoenix Solutions USA Inc.                United States
         IntraComp Group Inc.                          Unites States
         BluePhoenix Solutions Nordic ApS              Denmark
         BluePhoenix Solutions U.K. Ltd.               United Kingdom


                                       15
<PAGE>

         Name of Subsidiary                            Country of Incorporation
         --------------------------------              ------------------------
         BluePhoenix Solutions SRL                     Italy
         BluePhoenix Solutions GmbH                    Germany
         BluePhoenix Solutions B.V.                    The Netherlands
         BluePhoenix Solutions Ltd.                    Cyprus
         Alphatech (2000) Srl.                         Romania
         BluePhoenix Solutions Pty Ltd.                Australia

         For a discussion of our capital expenditures and divestitures, see
"Item 4.B. Business Overview--Investments and Acquisitions" and "Item 5.B.
Liquidity and Capital Resources."

B.       Business Overview

Our Business

         We develop and market unique enterprise IT modernization, or EIM,
solutions that enable companies to automate the process of modernizing and
upgrading their mainframe and distributed IT infrastructure and to effectively
compete in today's environment. The combination of our comprehensive set of
products and tools with our expert services methodology provides an efficient
and cost-effective process for extending the return on investment of existing
enterprise IT assets. Our solutions, which include technology for Understanding,
Presentment, Migration, Remediation, and Redevelopment, allow companies to fully
leverage their current systems and applications, speed up and reduce the cost of
the renewal process, and effectively update their systems in order to adapt to
new business demands.

         Our solution portfolio includes invasive and noninvasive software
products, software tools and support services that address the most pressing
challenges organizations and companies face today.

         Our solutions enable companies to:

       o      better understand and manage their IT systems and resources;
       o      easily integrate packaged applications and build customized
              applications;
       o      significantly decrease maintenance, human resource, and technology
              costs;
       o      quickly migrate to modern databases, platforms, applications, and
              programming languages;
       o      substantially transform applications and databases in order to
              address regulatory and business changes; and
       o      directly gain access to cutting edge technology and new business
              channels.

         Our comprehensive enterprise technologies span mainframe, midrange, and
client/server computing platforms. We have enhanced our expertise through the
successful completion of projects for many large organizations over the past 17
years, establishing our credibility and achieving international recognition and
presence. Based on our technology and that of our affiliates, we develop and
market software products, tools, and related methodologies. We deliver our tools
and methodologies together with training and support in order to provide

                                       16
<PAGE>

enterprises with comprehensive solutions, primarily for the modernization of
existing IT systems.

         In 1997, we gained international recognition and global presence by
introducing our C-MILL conversion tool, which was developed based on our generic
modernization technology. We delivered C-MILL together with consulting services,
training, and support as a comprehensive conversion solution to solve the
millennium problem. In 1997 and 1998, we derived substantially all of our
revenues from millennium conversion projects. In 1999, we derived less than half
of our revenues from millennium conversions, and since 2000, we have derived all
of our revenues from providing legacy modernization and porting solutions.

         As part of our growth strategy, we sought opportunities to increase our
revenue base through the acquisition of complementary products and services.
This culminated in the acquisition of a controlling interest in Liraz in
November 2002, and the purchase of the remaining outstanding interest in Liraz
in 2003. Liraz's business includes the operations of BluePhoenix Solutions B.V.
and its international subsidiaries. Through its subsidiaries, Liraz develops and
markets the AppBuilder, a software product used for the development of
sophisticated and robust applications needed by large enterprises. Liraz's large
install base includes leading international banks and financial institutions,
whose information systems operate in various legacy environments.

         We believe that following the Liraz acquisition, utilizing our combined
broad technology offering and our worldwide marketing capabilities, we became a
leading global player in the enterprise IT modernization market. In March 2003,
Gartner, Inc., a leading technology market analyst, placed us in the leader
quadrant of the legacy modernization market. With 12 offices in 10 countries, 5
full service delivery centers, and representatives, we provide our products and
services worldwide.

Market Background

         Companies initiate IT modernization projects for a wide range of
reasons, such as:

        o       maintaining a competitive edge in the market;
        o       addressing changing business needs;
        o       complying with new regulations
        o       reducing maintenance, human resource, and technology costs; or
        o       gaining access to cutting edge technology and new business
                channels.

         Among the various alternatives to modernization, such as renewing
legacy systems, buying packaged software, or rebuilding entire applications,
enterprise IT modernization, or EIM, has proven to be the most efficient and
viable way for companies to protect their existing investments. We provide a
range of solutions designed to efficiently address the challenge of retaining
the business knowledge built into the application code while updating the system
to reflect new requirements.

                                       17
<PAGE>

         The EIM market is divided into the following categories:

         Enterprise IT Understanding--Application portfolio management solutions
that enable companies to make informed strategic decisions regarding the future
of their IT systems by automatically capturing multiple levels of operational
and development information into a consolidated metadata warehouse. These tools
facilitate global assessments and impact analyses of application assets, thus
helping reduce costs, streamline working processes, and increase efficiency.

         Enterprise IT Presentment--Noninvasive solutions that enable companies
to intelligently mine text and convert documents from any legacy system into
Web-enabled formats. These tools help medium-large sized organizations offer
their customers and employees immediate Web-based viewing and delivery of all
their documents, including invoices, statements, bills, reports, and policies.

         Enterprise IT Migration--Solutions that enable companies to consolidate
and eliminate a wide range of legacy technologies through automated migrations
of applications, databases, platforms, programming languages, and data. These
tools help reduce costs and resources, and minimize reliance on proprietary
technology, sunset products, and dwindling skill sets.

         Enterprise IT Remediation--Solutions that enable companies to extend
the life of their existing IT systems by quickly adapting to new regulatory
changes and business requirements. These automated tools can be easily
customized to fit any IT environment and corporate need, including data field
adjustment, IT standardization, and system consolidation.

         Enterprise IT Redevelopment--Solutions that enable companies to mine
existing applications by extracting business rules, data flows, and data models,
and then reusing the proven code base to create more flexible Java/Web-based
applications. These tools help reduce maintenance costs and resources and
application development time-to-market.

Enterprise IT Understanding

         In the current lean budgetary environment, companies that want to
extend the return on investment of their existing systems need to modernize
their legacy systems. Since modernization projects are intricate and complex,
the essential first step is a thorough review of existing IT assets.

         Our understanding solutions provide automated, detailed mapping of
system-wide IT activity and the interconnections between all software
components. This detailed road map serves as the basis for optimizing the reuse
of existing IT systems, tailoring the modernization plan for the company's
unique IT environment and corporate requirements, and reducing future ongoing
maintenance costs.

         Modernization initiatives that need to be based on an in-depth
examination of actual system elements include:

        o       building and rewriting enterprise-scale application components;

                                       18
<PAGE>

        o       implementing new technologies such as Web-enablement;

        o       integrating purchased and newly written applications;

        o       consolidating servers and applications;

        o       migrating to more modern platforms, databases, applications, and
                languages;

        o       transforming current applications to adapt to changing business
                standards; and

        o       protecting against the loss of critical personnel and corporate
                knowledge base.

         Our integrated set of enterprise IT understanding solutions are
 designed to assist companies in achieving these goals by accurately mapping raw
 IT operational and development data, down to the program code level, into a
 consolidated enterprise-wide warehouse. The gathered information enables
 companies to keep track of system inventories, resources, and
 interrelationships and intelligently mine systems and application metadata.

         This enterprise-wide view can then be used for a variety of strategic
purposes, including:

        o       performing impact, cost, and trend analyses as well as ongoing
                tracking of IT resources, inventories, components, their usage
                and their interrelationships;
        o       running business-logic analyses for business process
                identification, evaluation, extraction, transition, and
                enhancement;
        o       achieving significant cost reductions through the elimination of
                unused products, unnecessary software upgrades, inefficient
                storage allocations, and wasteful CPU usage; and
        o       providing more efficient application development by reusing
                systems and leveraging existing business rules.

         BluePhoenix(TM) IT Discovery--An application portfolio management
 system that provides fast and convenient access to application inventory,
 dependency, and operational information. This tool performs the complete audit
 necessary to enable companies to define and analyze all application assets in
 order to make informed decisions about ongoing modernization activities. IT
 Discovery provides the ability to analyze on a refreshable basis numerous
 technology environments, and from them extract and report on the
 interrelationships among the components that make up these environments. In
 this manner, it provides an organization the ability to discover information
 about its current systems, thereby insuring that ongoing decisions are made
 based on an accurate audit of the current environment.

 Enterprise IT Presentment

         Our enterprise IT presentment solutions enable companies to more
 effectively use the large amount of information produced by batch reports
 generated from legacy systems. The presentment process extracts and manages
 report and document content and then selectively redisplays it in graphical
 form over the Web. The results are easy to access, read, and distribute, fully
 secure, and do not require huge amounts of storage space.

         BluePhoenix(TM) PowerText--This product provides companies with the
ability to define XML (Extensible Markup Language)-based data views from their
existing reports. Each data view can be associated with an XSL (Extensible
Stylesheet Language) definition used to create a

                                       19
<PAGE>

graphical presentation of the data. This process enables data such as invoice
numbers to be extracted from a character-based batch report and redisplayed as
data on an actual invoice form. Original reports are fed though the
listener-based PowerText that uses the created definitions to extract the XML
views. Once extracted, they are stored in the view database requiring much less
storage capacity than either scanned reports or the original character reports.
Using PowerText's browser-based view selector, the XML views in the database can
be displayed graphically using the associated XSL. They can also be downloaded
directly as XML into any tool that supports XML input, such as Microsoft Excel.

Enterprise IT Migration

         Our comprehensive, integrated set of enterprise IT migration solutions
enable companies to standardize and consolidate their IT systems by
automatically converting and redeploying applications, databases, platforms,
programming languages, and data that are implemented on outdated computing
platforms.

         Buying a packaged application or rebuilding one can often be an
expensive and risky proposition. Therefore, companies often look toward
migrating their existing applications. This option is much more cost-effective
and time-efficient as it leverages their existing investments in custom
applications. Additionally, our migration solutions enable companies to operate
their IT systems independently, without relying on previous technology support
providers. Thus, the migration process provides significant cost savings on
development, maintenance, and human resources.

         Our migration solutions provide numerous advantages, including:

        o       significantly decreasing project costs, risk of errors, and
                time;
        o       preserving corporate business knowledge;
        o       substantially reducing dependency on scarce skill sets;
        o       solving problematic maintenance issues;
        o       enabling end-to-end project control and management;
        o       directly supplying a full audit trail and documentation of all
                changes;
        o       minimizing system freeze time with a unique "refresh" feature;
                and
        o       comprehensively working with most mainframe and non-mainframe
                platforms.

         The enterprise IT migration suite includes the following solutions:

         BluePhoenix(TM) DBMSMigrator--An automated migration tool that converts
applications from nonrelational databases, such as IDMS, ADABAS, and VSAM, to
relational databases, such as DB2 and Oracle. The tool performs automated
conversions that provide companies with fully functional compliance for source
and target applications and minimal application, functional, and logical program
flow changes. DBMSMigrator leaves no residuals, emulation software, or
translation procedures and allows system support to continue uninterrupted
during the migration project. As a result of the conversion process, the
migrated database operates more efficiently, is easier to maintain, and contains
complete documentation of the customer's knowledge base and guidelines.

                                       20

<PAGE>

         BluePhoenix(TM) PlatformMigrator--An automated migration tool that
converts a range of platforms, including VSE, MVS, and Bull GCOS, and can be
customized to fit the unique IT configuration and business rules of each
customer site. The tool converts platforms to a pure, native installation so
that programs are not required to run under emulation or through translation
techniques. PlatformMigrator solutions assist companies with maintaining service
levels, setting and upgrading standards, implementing the new IT environment,
training IT users, implementing new facilities like a security system or a batch
scheduler, and testing for functional equivalence.

         BluePhoenix(TM) LanguageMigrator--An automated migration tool for
converting 4GLs (fourth generation languages). Our tool is currently capable of
converting COBOL, ADSO and COOL:Gen. This reliable, time-efficient, and
comprehensive solution enables site-wide installation, simultaneous testing, and
implementation of batch programs. In addition, LanguageMigrator identifies the
compatibility of the code, converts it to the new standards required by
customers, and analyzes converted programs to identify potential problems. For
more information about future developments of this tool, see "Research and
Development."

         BluePhoenix(TM) DataMigrator--A Windows-based tool for migrating data
between various data system environments. Coupled with a step-by-step proven
methodology, the tool provides a fully structured but still versatile automated
data migration process. DataMigrator enables full control of source and target
data definitions resulting in consistent, accurate, highest quality target data
with no data loss, and efficient utilization of available resources. In
addition, it provides support for partial or incremental migration and for
multiple run-time environments.

         BluePhoenix(TM) eXperanto--A software product that enables mainframe
applications to operate via the Web and other technology channels. eXperanto is
currently being further developed to provide an end-to-end solution by handling
the Web interface while developing attractive applications without the
associated training and management burden of other solutions. For more
information about eXperanto, see "Research and Development."

Enterprise IT Remediation

         Our integrated set of enterprise IT remediation solutions enable
companies to extend the life of their existing IT systems when faced with
ongoing regulatory changes and new business requirements. Our remediation
solutions address a variety of corporate needs and include:

         BluePhoenix(TM) Remediator--The core technology used by all of the
BluePhoenix remediation solutions. BluePhoenix Remediator uses a rule-driven
approach to automate data field adjustment and identify code associated with
various data fields. This unique and flexible technology solution was developed
for complex, large-scale data field length, type, or structure modification.
This tool has so far been used in successful conversions of close to 1 billion
lines of code. Coupled with a well-tested four-step methodology, it provides
support for all major conversion strategies and for a wide range of mainframe,
midrange, and AS/400 platforms, covering a wide range of database management
systems, languages, source and load libraries, databases, and files.


                                       21
<PAGE>

         BluePhoenix(TM) GTIN/UPCEnabler--A comprehensive solution that ensures
the success of GTIN (global trade identification number) and 2005 Sunrise
compliance projects, it is based on a unique, flexible technology developed for
complex and large-scale modifications to data field length, type, and structure.
The tool accelerates the compliance process and provides enhanced control over
large-scale changes. Additionally, modifications are made simultaneously and
tested as a whole, thus minimizing maintenance freeze time. GTIN/UPCEnabler is
available for MVS and Unix systems written in most popular programming
languages, using various databases and file structures.

         BluePhoenix(TM) EuroEnabler--A highly automated, rules-based tool that
enables a step-by-step, comprehensive euro conversion process. The tool fully
preserves system and data integrity and helps maintain the usual level of system
application development and maintenance throughout the process.

         BluePhoenix(TM) LiraEnabler--A rule-based tool that enables a
step-by-step, comprehensive Turkish Lira conversion process. LiraEnabler
provides several distinct benefits that simplify the transition effort and
assure the success of the redenomination project.

         In addition, we market specialized remediation tools that include the
following:

         OS/390 (MVS) standardization--A tool that migrates the applications,
databases, and data that need to be modified when consolidating or rationalizing
multiple OS/390 systems or logical partitions. Integrated facilities may also
require conversion, including security, batch schedulers, tape management, and
disk management systems.

         Naming conventions--An automated tool for standardizing naming
conventions that greatly facilitates the process of system consolidation. Since
all resources being converted must be changed in parallel, changing system
component naming standards is such a large task that a manual solution is not
realistic. This tool provides a single integrated solution for the challenge of
handling the multi-dimensional technical aspects of the consolidation of IT
systems.

         Consolidating security systems--Since there is a significant difference
in the approach and internal structure of security facilities in a customer's IT
systems, consolidating logical partitions that use the same product can still be
complex. Our automated tool facilitates this process, minimizes the freeze time
and increasing the reliability of the consolidated system.

Enterprise IT Redevelopment

         Enterprise IT environments are complex, and can prevent companies from
quickly and easily adapting to new business needs and requirements. The more
companies can organize and understand their applications, the faster they can
adapt to inevitable change. While organizations are mostly satisfied with the
existing business functionality of their applications, they usually want to
improve their business processes and leverage technologies such as Web-enabled
and service-oriented architectures. Additionally, they are eager to find a way
to lower their maintenance costs, which consume 70-80% of total IT spending.


                                       22
<PAGE>

         Our enterprise IT redevelopment suite enables companies to efficiently
mine, reuse, and rewrite their existing applications, thus incrementally
redeveloping their legacy systems, extending them into new technologies, and
saving on development and programmer costs.

         BluePhoenix(TM) AppBuilder--Our primary redevelopment environment is
used for managing, maintaining, and reusing the complicated applications needed
by large businesses. It provides the infrastructure for enterprises worldwide,
across several industries, with applications running millions of transactions
daily. Enterprises using AppBuilder can build, deploy, and maintain large-scale
custom-built business applications for years without being dependent on any
particular technology. AppBuilder acts like a virtual application warehouse,
keeping the underlying structure of the system in an organized framework such
that developers can easily understand it. This allows companies to reuse
critical business components, realizing a long-term return on investment for
both new and existing applications. AppBuilder allows developers to focus on the
application's business processes rather than its deployment, by generating the
code needed to run any technology, COBOL to HTML, Java to XML.

         Visual MainWin(R) for the Unix and Linux platforms (formerly
MainWin)--Visual MainWin(R) for the Unix and Linux platforms is an advanced
application-porting platform that enables IT organizations to develop
applications in Visual C++ and deploy them natively on Unix and Linux without
the investment that is usually associated with such an undertaking.

         Customers continue to choose Unix due to its reliability and
scalability in production environments, despite the wide popularity of
Windows-based systems for application development and smaller departmental
production applications. As a result, enterprises confront not only the
complexity inherent in these heterogeneous computing environments, but also the
higher costs of developing, maintaining, and updating applications for multiple
systems. Using our Visual MainWin(R) products, independent software vendors and
enterprise IT professionals can develop software applications using the powerful
Windows development tools and then quickly and efficiently deploy those Windows
applications natively on Unix systems.

         The uniqueness of the Mainsoft solution is its ability to recompile
Windows application source code on Unix, creating natively executable code,
which consequently achieves native Unix performance levels. In addition, our
remote development technology enables Windows developers to build native Unix
applications from within the comfort of the familiar Microsoft Visual Studio
interface. This enables development teams to focus on a single development
environment while leveraging the resulting code onto multiple platforms, saving
valuable time and money. Developers, therefore, focus on adding
revenue-generating functionality rather than on software porting.

         Mainsoft has entered into a licensing agreement with Microsoft,
pursuant to which Microsoft granted Mainsoft access to specified Microsoft
source code, including new versions, service packs, and upgrade releases for
Windows. Microsoft also granted Mainsoft distribution rights to the Windows
object code licensed as a component in Mainsoft's products.

         Visual MainWin(R) for the J2EE platform--In February 2004, Mainsoft
launched its new generation product: Visual MainWin(R) for the J2EE platform
(formerly named Grasshopper). The Visual MainWin(R) for J2EE Platform is a
cross-platform development solution that bridges

                                       23
<PAGE>

the .NET/J2EE divide, enabling Visual Basic .NET and C# developers to develop
J2EE Web Applications and Web services using the Visual Studio .NET development
environment. According to the Gartner Group, conflicting standards for
developing and deploying the next generation of enterprise applications and Web
services are inflating development costs and driving productivity losses in
medium- and large-scale enterprises. Gartner estimates that 95% of these
enterprises will support both Microsoft's .NET and Sun's J2EE platforms through
2006. With Visual MainWin(R) for the J2EE platform, .NET and Java developers can
accelerate J2EE development by co-developing Web applications and Web services.
Visual MainWin(R) also eliminates .NET/J2EE server integration costs by enabling
ASP.NET applications to be deployed on industry-leading J2EE application
servers, such as BEA Weblogic, IBM WebSphere or Tomcat.

Investments and Acquisitions

         In order to enhance our solutions and services portfolio, we have been
pursuing a strategy of adding new technologies to our suite of automated
modernization tools. We implement this strategy via internal development of new
software tools and through acquisitions and investments. Accordingly, we devote
significant resources to the development and marketing of new software
modernization tools, and invest in businesses that develop software tools that
are complementary to our existing portfolio. Following is a description of our
investments and acquisitions, which form a part of our business as described
above.

         Liraz. In November 2002, we purchased through a share exchange
transaction, approximately 86% of the outstanding share capital of Liraz, an
international software and services company, developing and marketing the
AppBuilder, then publicly traded on the TASE. As part of the share exchange
transaction, we issued to Liraz's selling shareholders, including Formula,
3,478,624 of our ordinary shares, constituting an aggregate of 26% of our
outstanding share capital. In two public tender offers that we published in
December 2002 and March 2003, we purchased additional shares of Liraz
representing 9% of the outstanding share capital of Liraz. In March 2003,
pursuant to the provisions of the Israeli Companies Law, we purchased the
remaining outstanding share capital of Liraz. The total aggregate amount of
those cash purchases was $2.7 million. Following these transactions, we
currently hold the entire outstanding share capital of Liraz. During 2003, we
assimilated and integrated Liraz's infrastructure, management, personnel and
sales and marketing activities within our business, and we are in the process of
integrating Liraz's technology, products, service offerings and research and
development activities within our business. For more information about the
AppBuilder, see "Enterprise IT Redevelopment--BluePhoenix AppBuilder."

         Mainsoft. Since 1999, we purchased, in a series of transactions, 57.5%
of the outstanding share capital of Mainsoft, for aggregate consideration of
approximately $17.2 million. These holdings include the exercise of a warrant in
May 2003, pursuant to which we purchased 630,000 shares of Mainsoft for an
aggregate of $378,000. We believe that our controlling interest in Mainsoft, the
developer and marketer of the Visual MainWin(R) products, including Visual
MainWin(R) for J2EE, enables us to address customer needs across a wide range of
computing platforms, from mainframe through midrange and workstations. We also
believe that holding a controlling interest in Mainsoft positions us as a
specialized cross-platform software solutions

                                       24
<PAGE>

provider. For more information about Mainsoft's products, see "Enterprise IT
Redevelopment--Visual MainWin(R) for the Unix and Linux platforms; Visual
MainWin(R) for J2EE Platform."

         IntraComp. IntraComp Group Inc. provides migration and conversion
services for large-scale systems and back-end integration services. In the
second quarter of 2000, we acquired a 52% controlling interest in IntraComp for
aggregate consideration of $3.2 million. In the fourth quarter of 2000, we
increased our shareholdings in IntraComp to 53% by investing an additional
$240,000. In addition, as of May 21, 2004, we lent to IntraComp an aggregate
amount of $2.3 million. During the second quarter of 2003, we purchased from the
other shareholders of IntraComp the remaining outstanding share capital of
IntraComp for consideration to be calculated based on IntraComp's cumulative
earnings before interest and taxes during the three-year period commencing on
January 1, 2003, subject to certain conditions. Under the agreement with the
selling shareholders, a down payment on account of the consideration will be
made in August 2004 and the balance is due in February 2006, based on a final
report of IntraComp's earnings. Following the purchase of the entire interest in
IntraComp, we integrated IntraComp's business completely into ours. For more
information about IntraComp's solutions, see "Enterprise IT
Migration--BluePhoenix PlatformMigrator."

         SCH. We wholly own SCH Software Conversion House Ltd., a developer and
marketer of software conversion tools and services for midrange environments. We
completed the acquisition of the outstanding share capital of SCH in 2001. Since
its formation in 1994, SCH has focused on providing cost-effective technology
enhancement tools and solutions for enterprise IT migrations and conversions for
midrange computer environments.

         MultiConn. In 1999, we acquired 51% of the outstanding share capital of
M.S.I. MultiConn Solutions International (1995) Ltd., referred to as M.S.I.
MultiConn, and in 2000, we increased our shareholdings in M.S.I. MultiConn to
60%. Effective as of January 2004, the other shareholders of M.S.I. MultiConn
transferred their entire holdings in M.S.I. MultiConn to us. We currently wholly
own M.S.I. MultiConn and finance its activities. M.S.I. MultiConn develops,
through an affiliate, MultiConn Technologies, and markets eMulticonn and related
solutions, referred to as eXperanto. During 2000 and 2001, we lent to MultiConn
Technologies $2.1 million. Effective as of December 2002, we exercised an option
to convert $1 million of the loan into shares of MultiConn Technologies and as a
result our holdings increased to 60%. Following a transaction entered into
between us and the other shareholders of MultiConn Technologies in 2004, we
currently hold 40% of the outstanding share capital of, and have an option to
increase our holdings in, MultiConn Technologies to 60% of the outstanding share
capital. In May 2004, we provided on behalf of MultiConn Technologies a
guarantee in the amount of $300,000. In 2002 and 2003, we wrote down $1.8
million and $350,000, respectively, of the balance of our investments and loans
to MultiConn Technologies, due to the impairment of the investment and limited
visibility of repayment. For more information about eXperanto, see "Enterprise
IT Migration--eXperanto."

         Intercomp. In 1998, we invested in Intercomp Ltd., which has developed
a set of automated analysis and reengineering tools for legacy COBOL
applications. During 2002 and 2003 Intercomp has focused its efforts on the
development of software tools that comprise a part

                                       25
<PAGE>

of BluePhoenix LogicMiner. For more information about LogicMiner, see "Research
and Development--Enterprise IT Understanding--BluePhoenix LogicMiner."

         In the first quarter of 2004, we exercised an option to purchase
additional shares of Intercomp, increasing our shareholdings in Intercomp to
62%. In the fourth quarter of 2003, we exercised an option to purchase from
Intercomp certain technology for an aggregate of $1.9 million. In addition, we
undertook to pay to Intercomp royalties of 25% of the revenues generated from
the purchased technology. In connection with the purchase of Intercomp's
technology, we assumed the rights and obligations of Intercomp under a
distribution agreement, pursuant to which Intercomp granted rights to a
distributor to further develop and distribute Intercomp's products. As of
December 31, 2003, we lent to Intercomp an aggregate of approximately $1.8
million, which are convertible into preferred shares of Intercomp, subject to
certain conditions.

         In April 2004, a shareholder of Intercomp comprised of several funds
acting through their general partner, Israel Infinity Venture Capital Partners
Ltd., referred to as Infinity, granted us a call option to purchase its entire
holdings in Intercomp, exercisable until April 1, 2006. If we do not exercise
such option, Infinity will have a put option to cause us to purchase Infinity's
entire holdings in Intercomp, exercisable during a period of six months
commencing in April 2006. If either of the options is exercised, we shall be
obliged to issue to Infinity, as consideration for Intercomp's shares, 100,000
BluePhoenix ordinary shares and an additional amount of shares to be calculated
based on revenues generated from the sale of licenses to use Intercomp's
products. The shares will be subject to a lock-up period until April 1, 2006. We
may, at our option, pay to Infinity the cash equivalent of such shares which
will be calculated according to the average closing price of BluePhoenix shares
during the 20 trading days prior to the exercise of any of the options.

         We have granted to FIMI, a creditor of Intercomp, a put option to sell
to us convertible promissory notes issued to FIMI by Intercomp in an aggregate
principal amount of $3.5 million. For more information about this transaction,
see "Item 5.B. Liquidity and Capital Resources--Contractual Commitments and
Guarantees."

         Alexandria. During 1999, we purchased 19% of the outstanding share
capital of Alexandria Migration Technologies Ltd., which develops DBMSMigrator
(formerly known as C-MIDAS). In September 2002, we entered into an agreement
with the other shareholder of Alexandria to purchase his entire shareholdings in
Alexandria, constituting 81% of Alexandria's outstanding share capital, for an
aggregate amount of $585,000. As a result, we currently wholly own Alexandria
and its entire activity is integrated within our business. For more information
about the DBMSMigrator, see "Enterprise IT Migration--BluePhoenix DBMSMigrator."

         CePost. In January 2004, we purchased the entire outstanding share
capital of CePost Ltd., an Israeli company that develops and markets software
solutions for electronic document mining, management and presentment. Pursuant
to the purchase agreement, we paid to the shareholders of CePost $172,500 and
issued to them 31,500 BluePhoenix ordinary shares. In addition, we undertook to
pay to the sellers royalties from CePost's revenues in an amount ranging between
$120,000 and $1.5 Million. At our option, we may pay the royalties in


                                       26
<PAGE>

BluePhoenix ordinary shares. For more information about CePost's software
solutions, see "Enterprise IT Presentment--BluePhoenix PowerText."

         Outlook. Effective as of January 2004, we acquired from an Israeli
company, Outlook Systems Ltd., through our new wholly owned subsidiary, Outlook
& BluePhoenix Ltd., Outlook Systems' entire business activities in Israel in the
field of software development services. Pursuant to the purchase agreement, we
hired 31 employees previously employed by Outlook Systems and assumed all the
obligations in respect of the purchased activity. These obligations include the
extension of a guarantee to banks with respect to loans in an aggregate amount
of $720,000 plus interest accrued, to be repaid by us by February 15, 2007. In
addition, under the purchase agreement, we undertook to pay to the shareholders
of Outlook Systems in the first quarter of 2007, an amount equal to between 5
and 7 times of the average operating profit of Outlook & BluePhoenix Ltd. in the
years 2004, 2005 and 2006, less an amount of $720,000.

         Tesnet. Effective as of January 1999, we acquired 32% of the
outstanding share capital of Tesnet--Software Testing Ltd., a provider of
testing and software quality assurance services, for an aggregate amount of $2.0
million that we paid during 1999 and 2002. In February 2000, Tesnet consummated
a public offering of its shares on the Tel Aviv Stock Exchange. Net proceeds
from the offering were $9.5 million. As a result, we recorded a capital gain of
approximately $1.0 million. During 2000, we sold a portion of our holdings which
constitutes 3% of the outstanding share capital of Tesnet, and in the first
quarter of 2004, we sold our entire remaining holdings in Tesnet. As a result,
we currently do not hold any interest in Tesnet.

         Alphatech. In December 2002, we purchased from Intercomp, our
affiliate, a 65% controlling interest in Alphatech (2000) Srl. for aggregate
consideration of $100,000. Alphatech, a company incorporated in Romania,
provides software development services.

         SDC. In October 2002, Liraz, through a wholly owned subsidiary,
acquired from SDC FinansSystems A/S, a company incorporated in Denmark, its IT
development services activities relating to customers in the banking sector in
Denmark. Pursuant to the purchase agreement, we assumed all the obligations in
respect of the purchased activity and hired 100 employees, of which 30 employees
were dismissed during the first quarter of 2003. The seller agreed to reimburse
us for any costs associated with such dismissals. The aggregate consideration
paid for the purchased activity and goodwill was $800,000. In addition, we
entered into an agreement with two of the seller's shareholders, pursuant to
which the shareholders have purchased from us IT development services.

         Level 8. As of May 21, 2004, we hold shares and several capital
instruments, including warrants and rights to receive warrants exercisable into
shares of Level 8 Systems Inc. If we exercise these capital instruments in full,
our shareholdings in Level 8 would reach 4%. During 2003 and in the first
quarter of 2004, we sold substantially all of the preferred stock of Level 8
then held by us for $624,000. In 2003, we purchased 444,444 ordinary shares of
Level 8 for $200,000. In addition, as of May 21, 2004, we extended to Level 8
guarantees of approximately $2 million in the aggregate. As consideration for
the extension of such guarantees, which will be outstanding until November 2004,
we have been issued 300,000 Level 8 ordinary shares.


                                       27
<PAGE>

Customers

         We provide our modernization solutions directly or through our
strategic partners, such as IBM, Capgemini, EDS, Cook Systems, Temenos,
Millennium and TACT. Additionally, from time to time, other IT services
companies license our technologies for use in modernization projects in various
markets.Our customers include, among others:

<TABLE>
<CAPTION>

        Financial Services            Insurance                       Other Industries
        ------------------            ---------                       ----------------

<S>     <C>                          <C>                             <C>
        o   CharlesSchwab             o   Alecta (Sweden)             o   Bell Canada
        o   CitiBank (USA)            o   AXA (UK)                    o   Department of Immigration
                                                                          (Australia)
        o   Credit Suisse             o   LACERA (USA)                o   Safeway (USA)
        o   Fidelity                  o   LBS (Germany)               o   Shaw Industries(USA)
        o   Friends Provident (UK)    o   Mutual of America           o   Underwriters Laboratories
                                                                          (USA)
        o   FSB (Sweden)              o   National Nederlanden        o   Safeway (USA)
                                          (Netherlands)
        o   Merrill Lynch (USA)       o   Phoenix (Israel)            o   Siebel
        o   RSI (Spain)                                               o   Cognos
        o   SDC (Denmark)                                             o   I2
                                                                      o   Dassault
                                                                      o   Mentor Graphics
</TABLE>

         One customer accounted for 14% of our revenues in 2003.

         The following table summarizes the revenues from our tools and services
by geographic regions for the periods indicated:

                                                  Year ended December 31,
                                            -----------------------------------
                                              2003        2002           2001
                                              ----        ----           ----
                                                      (in thousands)
          United States                      $18,520      $20,847      $21,428
          Europe (other then Denmark)         19,799        7,785        8,518
          Denmark                              8,997        2,530            -
          Israel                               3,986        4,636        7,482
          Other                                3,038          870        1,010
                                              ------       ------       ------
          Total                              $54,340      $36,668      $38,438


                                       28
<PAGE>

Research and Development

         In order to maintain our position as a market leader in the IT
modernization market, we are focusing our development efforts on further
enhancements to current solutions, as well as addressing newly emerging aspects
of the modernization market. We are planning additional software development
activities to extend our modernization solutions by leveraging our technological
skills to create added value for our customers and to generate additional
business opportunities.

         The next generation of our solutions will be extended to address the
entire modernization process from legacy systems to modern platforms. We have
started to develop our next generation of products and tools, which will allow
the fluent transformation of legacy code to state-of-the-art platforms, such as
J2EE and .NET. The new generation of solutions is composed of products and tools
in several EIM categories.

Enterprise IT Understanding

         Application Portfolio Management--By further productizing our existing
scanning technology and combining it with the additional technology licensed
from Merrill Lynch, our IT Discovery product will provide the basis for legacy
understanding needed by the rest of our modernization solutions, and in addition
it will also directly address the newly emerging application portfolio
management (APM) challenge. This market addresses organizations' needs to
understand their current systems and to manage them on an ongoing basis.

         BluePhoenix(TM) LogicMiner--A comprehensive solution that mines IT
development data and extracts business rules from the legacy code, thus
providing IT departments with a better understanding of their IT environments.
This tool retains past investments in software assets by producing reusable code
objects or descriptive data that can later be used for improving the quality of
the legacy code, rewriting the legacy application, or building a full
modernization plan. LogicMiner decreases maintenance costs and efforts and
increases a system's manageability, while eliminating rules that no longer apply
to current business procedures.

Enterprise IT Presentment

         Report-IT --In the area of noninvasive modernization or legacy wrapping
for customers looking for a "quick and easy" modernization payback, we are
continuing to enhance our PowerText report-to-Web technology acquired through
our wholly owned subsidiary CePost. In addition, CePost has recently reached a
joint development agreement with Elixir Technology, a company headquartered in
Singapore. Elixir develops and markets e-Reporting solutions. Elixir has
recently introduced an innovative mobile reporting solution that provides an
auto-matched ease of publishing of corporate information to any Java or
XHTML-enabled mobile devices. CePost and Elixir are developing together the
Report-IT an XML-based reporting and output management solution for legacy
systems, based on text files source.


                                       29
<PAGE>

Enterprise IT Migration

         Fourth generation language Migration--4GL migrations are also
consistent with our approach of using automated migration techniques when the
legacy system is relatively clean and no architectural changes are required. We
intend to further provide a unique approach to language migration that maximizes
the organization's capabilities to recover the investment already made in legacy
systems. Our next target languages are Mantis and PowerBuilder.

         EXperanto--Technology owned by MultiConn Technologies is currently
being further developed to enable mainframe applications to access web services,
in a standard and simplified path.

Enterprise IT Redevelopment

         Re-Builder (code name)--We are addressing application redevelopment as
an alternative to automated migration, when legacy code quality is poor or
architectural changes are required as part of the application migration. In
particular, application redevelopment provides a second generation approach to
the very large and rapidly growing market for migrating COBOL to J2EE or .NET, a
migration that involves extensive architectural changes to the application. This
market requires tools that can mine core business rules from legacy applications
and then recombine these rules into applications in the new J2EE and .NET
architectures. To address this we are integrating IT Discovery, the logic mining
capabilities of the technology acquired from Intercomp and the AppBuilder
repository and regeneration capabilities into a complete products suite
addressing application redevelopment.

         Visual MainWin(R) for J2EE Platform--Mainsoft's Visual MainWin(R) for
the J2EE platform, launched in February 2004, is a cross-platform development
solution that bridges the .NET/J2EE divide, enabling Visual Basic .NET and C#
developers to develop J2EE Web applications and Web services using the Visual
Studio .NET development environment.

         With Visual MainWin(R) for the J2EE platform, .NET and Java, developers
can accelerate J2EE development by co-developing Web applications and Web
services. Visual MainWin(R) also eliminates .NET/J2EE server integration costs
by enabling ASP.NET applications to be deployed on industry-leading J2EE
application servers, such as BEA Weblogic, IBM WebSphere or Tomcat.

         In 2003, the Microsoft Intermediate Language to Java Byte code compiler
and all required initial steps of integration with Visual Studio .NET have been
completed. In 2004, Mainsoft plans to achieve enterprise quality and to add new
functionalities. These additional developments are planned to include: support
of new c# features, support portals standards and support new release of Visual
studio .NET and new Java standards.

Costs and Grants

         We employ 120 employees in our software development departments. Our
development expenditures were $8.1 million in 2003, $7.4 million in 2002 and
$8.9 million in 2001. Certain

                                       30
<PAGE>

of our new product development projects have been awarded research grants that
are repayable as royalties.

         Mainsoft--Through December 31, 2003, our subsidiary, Mainsoft, accrued
an aggregate of approximately $570,000 in grants from the OCS for the
development of Visual MainWin(R) for J2EE. Royalties of 3% are payable to the
OCS on sales of Visual MainWin(R) for J2EE, up to 100% of the dollar-linked
grant received in respect of the funded product. As of May 21, 2004, Mainsoft
has paid to the OCS the royalties that were required to be repaid. Mainsoft has
submitted to the OCS an application for obtaining research and development
grants for 2004, which is pending approval.

         CePost--As of January 1, 2004, our subsidiary CePost, accrued an
aggregate of approximately $250,000 in grants from the OCS for the development
of PowerText. Royalties of 3% are payable to the OCS on all sales of PowerText
up to 100% of the dollar-linked grant received. As of May 21, 2004, CePost has
paid to the OCS the royalties that were required to be repaid.

         In the first quarter of 2004, the Singapore-Israel Industrial Research
and Development Foundation agreed to provide CePost together with a company
incorporated in Singapore, financing for the development of Report-IT.
Accordingly, the foundation agreed to award CePost up to $100,000 payable
according to an agreed upon schedule. CePost is required to repay that amount in
payments based on sales of the Report-IT up to the amount of the grant.

Intellectual Property

         We rely on a combination of trade secret, copyright, and trademark laws
and non-disclosure agreements, to protect our proprietary know-how. Our
proprietary technology incorporates processes, methods, algorithms, and software
that we believe are not easily copied. Despite these precautions, it may be
possible for unauthorized third parties to copy aspects of our products or to
obtain and use information that we regard as proprietary. We believe that,
because of the rapid pace of technological change in the industry, patent and
copyright protection are less significant to our competitive position than
factors such as the knowledge, ability, and experience of our personnel, new
product development, and ongoing product maintenance and support.

Competition

         The modernization market in which we operate is highly competitive. The
principal competitive factors affecting the market for our modernization
solutions include:

        o       product functionality, performance, and reliability;
        o       technical range of the offered solutions;
        o       integration between the offered solutions;
        o       availability of experienced personnel;
        o       prices;
        o       ability to respond in a timely manner to changing customer
                needs;

                                       31
<PAGE>

        o       ease of use; and
        o       quality of support.

         Competition in the enterprise IT modernization field is, to a large
extent, based upon the functionality of the tools. Vendors in this market
address the evolutionary modernization of legacy systems in different ways, and
therefore do not always compete directly with others in the market. Many small
vendors address only a small part of the market, whereas only a few offer a
comprehensive and integrated solution set which can provide answers for most of
the modernization challenges that companies currently face.

         Our principal competitors consist of system integrators and tool
vendors, including leading software developers, who enable customers to replace
or modernize their legacy systems. Major system integrators in the market
include IBM, Capgemini, and EDS. IBM has established legacy modernization as a
strategic pillar of its long-term application development strategy. IBM has a
specific, dominant advantage in the underlying application development
infrastructure associated with many legacy environments (predominantly IBM
mainframes) and it has a large service capability. We cooperate with some of
these system integrators in providing specific solutions. Although all of them
provide solutions for the modernization of enterprise systems, each player
focuses on different niches. In addition, we face competition from niche
companies operating in each of the five principal areas of the enterprise IT
modernization market:

        o       Enterprise IT Understanding;
        o       Enterprise IT Migration;
        o       Enterprise IT Remediation;
        o       Enterprise IT Redevelopment; and
        o       Enterprise IT Presentment.

         For example, Micro Focus International markets its solutions to the
COBOL market, Software Technologies addresses the Natural/ADABAS arena, and
other competitors focus on collecting sufficient information about application
portfolios to enable improved working processes. Other solution developers
provide legacy and distributed repository solutions that are important for a
variety of modernization processes.

C.       Organizational Structure

         We are part of the Formula group, a global IT solutions and services
group headquartered in Israel. The Formula group is principally engaged in
providing software consulting services, developing proprietary software
products, and providing computer-based business solutions. The Formula group
delivers its solutions in over 50 countries worldwide to clients with complex IT
services needs, including a number of "Fortune 1000" companies. We are a
subsidiary of Formula Systems (1985) Ltd., or Formula, which holds directly
58.6% of our ordinary shares and, through voting agreements with Dan Goldstein,
a director of our company and Formula's chief executive officer and chairman of
the board of directors, and Gad Goldstein, the chairman of our board and
Formula's president, beneficially own 64.2% of our ordinary shares.


                                       32
<PAGE>

         Following is a list of our significant subsidiaries, their country of
incorporation, and proportion of our ownership interest in them, as of May 21,
2004:

                                     Country of                Proportion of
    Name of Subsidiary              Incorporation            Ownership Interest
    ------------------              -------------            ------------------

BluePhoenix Solutions B.V.         The Netherlands                  100%

Liraz Systems Ltd.                 Israel                           100%

Mainsoft Corporation               United States                    58%


D.       Property, Plants and Equipment

         We, together with our subsidiaries and affiliates, currently occupy
approximately 10,000 square meters of office space. The aggregate annual rent we
paid for these facilities in 2003 was $2.2 million. The following table presents
certain information about our facilities and the terms of lease of these
facilities.

<TABLE>
<CAPTION>

------------------------- ------------------------- ---------- --------------------- ----------------------
   Country and State                City              Sq.         Expiration           Annual anticipated
                                                     Meters                           rental fees in 2004
                                                                                        in thousands US$
------------------------- ------------------------- ---------- --------------------- ---- -----------------
<S>                       <C>                         <C>      <C>                               <C>
Israel                    Herzlia                       1,400  December 2006                       300
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Israel                    Tel Aviv                        400  Monthly renewal                      60
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Israel                    Holon                           250  February 2005                        50
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Israel                    Lod                           1,100  June 2006                           140
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Israel                    Azor                            450  August 2004                          75
------------------------- ------------------------- ---------- --------------------- ---- -----------------
USA, North Carolina       Cary                          1,300  May 2006                            260
------------------------- ------------------------- ---------- --------------------- ---- -----------------
USA, California           San Jose                        700  September 2006                      150
------------------------- ------------------------- ---------- --------------------- ---- -----------------
USA, Indiana              South Band                      700  December 2004                       120
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Denmark                   Ballerup                      2,600  Monthly renewal                     270
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Germany                   Frankfurt                       270  November 2004                        70
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Netherlands               Amsterdam                       130  June 2005                            25
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Romania                   Bucharest                       400  August 2005                          60
------------------------- ------------------------- ---------- --------------------- ---- -----------------
United Kingdom            Uxbridge                         40  July 2004                            75
------------------------- ------------------------- ---------- --------------------- ---- -----------------


                                       33

<PAGE>

<CAPTION>

------------------------- ------------------------- ---------- --------------------- ----------------------
   Country and State                City              Sq.         Expiration           Annual anticipated
                                                     Meters                           rental fees in 2004
                                                                                        in thousands US$
------------------------- ------------------------- ---------- --------------------- ---- -----------------
<S>                       <C>                         <C>      <C>                               <C>
Cyprus                    Nicosia                         300  June 2005                            45
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Italy                     San Felice                      150  November 2005                        30
                          Segrate--Milano
------------------------- ------------------------- ---------- --------------------- ---- -----------------
Total                                                  10,190                                    1,730
------------------------- ------------------------- ---------- --------------------- ---- -----------------
</TABLE>

         If, in the future, we determine that we need additional space to
accommodate our growth, we believe that we will be able to obtain this
additional space without difficulty and at commercially reasonable prices. We do
not own any real property.

ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

Background

         We develop and market unique enterprise IT modernization, or EIM,
solutions that enable companies to automate the process of modernizing and
upgrading their mainframe and distributed IT infrastructure and to effectively
compete in today's environment. The combination of our comprehensive set of
products and tools with our expert services methodology provides an efficient
and cost-effective process for extending the return on investment of existing
enterprise IT assets. Our solutions, which include technology for Understanding,
Presentment, Migration, Remediation, and Redevelopment, allow companies to fully
leverage their current systems and applications, speed up and reduce the cost of
the renewal process, and effectively update their systems in order to adapt to
new business demands.

         Our quarterly and annual revenues, gross profit, and results of
operations have fluctuated significantly in the past and we expect them to
continue to fluctuate significantly in the future, as a result of numerous
factors, including the changes in the suite of modernization tools we have been
offering to our customers, the limited experience we have had in the markets for
these tools, and the difficulties we have encountered in introducing our tools
to their respective markets. Therefore, we believe that period-to-period
comparisons of our financial results are not necessarily meaningful and you
should not rely on them as an indication for future performance.

         The following discussion of our critical accounting policies and our
financial condition and operating results should be read in conjunction with our
consolidated financial statements and related notes, prepared in accordance with
U.S. GAAP for the years ended December 31, 2003, 2002 and 2001, and with any
other selected financial data included elsewhere in this report.

Overview

         In recent years, we have been affected by the global economic changes,
in particular the sharp decline in capital spending in the IT sector and the
overall business slowdown in North America and Europe, as well as in Israel.
Uncertainties in the North American and European

                                       34
<PAGE>

markets have influenced the purchasing patterns of leading software developers
who delayed their planned orders and caused developers to reduce the amount of
their planned license commitment. These changes in purchasing patterns in the IT
industry directly affect our operating results. Our revenues decreased from
$49.2 million in 2000 to $38.4 million in 2001 and to $36.7 million in 2002. In
2003, as a result of a slight recovery of the market, and the impact of a
strategic acquisition we completed, this trend changed, and our revenues
increased to $54.3 million.

         In order to enhance our solutions and services portfolio, we have been
pursuing a strategy of adding new technologies to our suite of automated
modernization tools. We implement this strategy via internal development of new
software tools and through acquisitions and investments. Accordingly, we devote
significant resources to the development and marketing of new software
modernization tools, and invest in businesses that develop software tools that
are complementary to our existing portfolio.

         In March 2003, we completed the acquisition of the entire outstanding
share capital of Liraz, an Israeli company then publicly-traded on the TASE.
While we have already concluded the integration of Liraz's infrastructure,
management, personnel and sales and marketing activities within our business, we
are still in the process of integrating Liraz's technology, products, service
offerings and research and development activities. We expect that as a result of
the integration of our business with that of Liraz, the combined companies will
be able to realize greater operating efficiencies and will benefit from a
broader product line with a larger and more diversified marketing and support
network. In addition, we anticipate that the combination of our respective
technical personnel will enhance our product development capabilities. We
currently offer a broad suite of enhanced enterprise IT modernization solutions,
from legacy reuse to platform rehosting, which we believe will assist us in
achieving our goal of being a market leader in the IT modernization market.
Following a temporary increase in certain costs due to overlapping functions, in
late 2003, we streamlined our operations through the complete integration of the
assets, workforce and infrastructure of some of our subsidiaries and affiliates.
In addition, we disposed of less efficient product lines. Our post-acquisition
integration plan was aimed at aligning our cost structure with the revenue
stream of our and Liraz's combined businesses, while realizing the benefits of
the local and offshore delivery centers. These activities have directly
contributed to our operating profit, which grew from $344,000, or 1% of
revenues, in 2002 to $1.9 million, or 4% of revenues, in 2003.

Consolidation of the Results of Operations of Our Subsidiaries

         Following is information regarding the consolidation of the results of
operations of certain of our subsidiaries, for the periods indicated. We began
to consolidate the results of operations of each of these subsidiaries when we
acquired control in them.


                                       35
<PAGE>

<TABLE>
<CAPTION>

                                                                    Cessation of Consolidation (if
Name of Subsidiary                     Beginning Consolidation               applicable)
------------------                     -----------------------               -----------

<S>                                    <C>                            <C>
Mainsoft Corporation                   Fourth quarter of 1999

Tesnet--Software Testing Ltd.          First quarter of 1999          Second quarter of 2000

M.S.I. MultiConn Solutions             Third quarter of 1999
International (1995) Ltd. (1)

IntraComp Group Inc.                   Second quarter of 2000

MultiConn Technologies Ltd. (1)        Fourth quarter of 2002         First quarter of 2003 (1)

Liraz Systems Ltd.                     Fourth quarter of 2002

Advanced Systems Europe B.V.           Fourth quarter of 2002

BluePhoenix Solutions B.V.             Fourth quarter of 2002

Alexandria Migration Technologies      First quarter of 2003
Ltd.

CePost Ltd.                            First quarter of 2004

Outlook & BluePhoenix Ltd.             First quarter of 2004

Intercomp Ltd.                         First quarter of 2004
</TABLE>

       -------------------------

             (1) We did not consolidate the results of operations of M.S.I.
             MultiConn and MultiConn Technologies in 2003, since the other
             shareholders of these companies undertook the daily management and
             control. Following the acquisition of the remaining shareholdings
             of M.S.I. MultiConn Solutions from the other shareholders,
             effective as of the first quarter of 2004, M.S.I. MultiConn's
             results are consolidated with ours.


         In 2003, we recognized a portion of the net losses of our affiliates,
Intercomp, Tesnet, M.S.I. MultiConn Solutions International (1995) Ltd. and
MultiConn Technologies Ltd., in accordance with the equity method of accounting.

                                       36
<PAGE>

Critical Accounting Policies

We prepare the consolidated financial statements of BluePhoenix in
conformity with accounting principles generally accepted in the United States,
referred to as U.S. GAAP. Accordingly, we are required to make certain
estimates, judgments and assumptions that we believe are reasonable based upon
the information available. These estimates and assumptions affect the reported
amounts of assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the periods presented. The
significant accounting policies which we believe are the most critical to aid in
fully understanding and evaluating our reported financial results include the
following:

o    Revenue recognition. Our revenue recognition policy is significant because
     our revenue is a key component of our results of operations. In addition,
     our revenue recognition determines the timing of certain expenses, such as
     commissions and royalties. We follow very specific and detailed guidelines
     in measuring revenue; however, certain judgments affect the application of
     our revenue policy. Revenue results are difficult to predict and any
     shortfall in revenue or delay in recognizing revenue could cause our
     operating results to vary significantly from quarter to quarter and could
     result in future operating losses. Should changes in conditions cause
     management to determine that these guidelines are not met for certain
     future transactions, revenue recognized for any reporting period could be
     adversely affected. (See note 1K to our consolidated financial statements
     attached at item 18 of this annual report).

              We recognize revenues from direct software license agreements in
     accordance with statement of position (SOP) 97-2 "Software Revenue
     Recognition" (as amended by SOP 98-4 and SOP 98-9) upon delivery of the
     software when collection is probable, the license fee is otherwise fixed or
     determinable, and persuasive evidence of an arrangement exists.

              When a project involves significant production, modification or
     customization of software, and with respect to fixed fee contracts, revenue
     is generally recognized according to the percentage of completion method in
     accordance with the provisions of SOP 81-1 "Accounting for performance of
     Construction-Type Contracts." Under this method, estimated revenue is
     generally accrued based on costs incurred to date as a percentage of total
     updated estimated costs. If we do not accurately estimate the resources
     required or the scope of work to be performed, or do not manage our
     projects properly within the planned periods of time or satisfy our
     obligations under the contracts, then future margins may be significantly
     and negatively affected or losses on existing contracts may need to be
     recognized. Any such resulting reductions in margins or contract losses
     could be material to our results of operations. We recognize contract
     losses, if any, in the period in which they first become evident.


o    Capitalized software research and development costs. Development costs of
     software that is intended for sale that were incurred after the
     establishment of technologies feasibility of the relevant product, are
     capitalized. Technologies feasibility is determined when detailed program
     design is completed and verified in accordance with the provisions of SFAS
     No. 86 of the FASB. Software development costs incurred before
     technological feasibility is established are charged to the statement of
     operations as incurred. Our policy on capitalized software costs determines
     the timing of our recognition of certain

                                       37
<PAGE>

     development costs. In addition, this policy determines whether the cost is
     classified as development expense or capitalized costs. Management is
     required to use professional judgment in determining whether development
     costs meet the criteria for immediate expense or capitalization. Our
     failure to accurately predict the life of capitalized software could cause
     a one-time amortization, which could adversely affect our operating
     results.

o        Impairment of Goodwill and intangible assets. Our business acquisitions
    resulted in goodwill and other intangible assets. We periodically evaluate
    our goodwill, intangible assets, and investments in affiliates for potential
    impairment indicators. Our judgments regarding the existence of impairment
    indicators are based on legal factors, market conditions and operational
    performance of our acquired businesses and investments.

         In accordance with SFAS No. 142 "Goodwill and Other intangible Assets"
    (SFAS No. 142), effective January 1, 2002, indefinite life intangible assets
    and goodwill are not amortized but rather subject to annual impairment
    testing.

         The annual impairment testing required by SFAS No. 142 also requires us
    to use our judgment as to the value of these intangible assets. If we are
    incorrect in these judgments, we may be required to write down the carrying
    value of our goodwill and other intangible assets in future periods. These
    write downs, if any, may have an adverse affect on our operating results.
    Future events could cause us to conclude that impairment indicators exist
    and that additional intangible assets associated with our acquired
    businesses are impaired. Any resulting impairment loss could have a material
    adverse impact on our financial condition and result of operations.

o        Income taxes. Our income tax policy records the estimated future tax
    effects of temporary differences between the tax bases of assets and
    liabilities and amounts reported in the accompanying consolidated balance
    sheets, as well as operating loss and tax credit carry forwards. We follow
    very specific and detailed guidelines regarding the recoverability of any
    tax assets recorded on the balance sheet and provide any necessary
    allowances as required in accordance with the provisions of SFAS No. 109 of
    the FASB "Accounting for Income Taxes." If we fail to accurately predict our
    estimated tax and if we are required to pay higher taxes than we
    anticipated, our results of operations could be seriously harmed.

o        Accounts receivable. We maintain a conservative method to assure the
    collection of our accounts receivable. Under this methodology, we
    periodically estimate the outstanding amounts and deduct an allowance for
    receivables with a low collection certainty. When there is a major
    deterioration of a customer's credit worthiness, we make allowances for
    doubtful accounts upon specific review of all outstanding invoices of such
    customer. If we fail to estimate accurately the recoverability of amounts
    due to us, our results of operations could be adversely affected.

                                       38
<PAGE>

Our Reporting Currency

         Most of our revenues and a substantial portion of our costs are
denominated in United States dollars, or dollars. The dollar is the primary
currency of the economic environment in which BluePhoenix operates. Thus the
dollar is our functional and reporting currency. Accordingly, monetary accounts
maintained in currencies other than the dollar are remeasured into dollars under
the principles described in Financial Accounting Standards Board Statement No.
52. Assets and liabilities have been translated at period-end exchange rates.
Results of operations have been translated at average exchange rates. As the
exchange gains and losses arising from these translations are immaterial, they
are included in the statements of income (loss).

A.       Operating Results

         The following table presents the percentage relationships of certain
items from our consolidated statement of operations, as a percentage of total
revenues for the periods indicated:

<TABLE>
<CAPTION>

                                                         2003           2002          2001
                                                         ----           ----          ----
                                                           %              %             %
                                                         ----           ----          ----
<S>                                                      <C>            <C>           <C>
Statement of Operations Data
as a Percentage of Revenues:
Revenues                                                 100.0          100.0         100.0
Cost of revenues                                          44.4           41.5          46.1
                                                         -----          -----         -----
Gross profit                                              55.6           58.5          53.9
Software development costs                                15.0           20.1          23.1
Selling, general, and administrative expenses             37.0           36.1          51.5
                                                         -----          -----         -----
                                                           3.6            2.2         (20.7)
Goodwill impairment, restructuring costs, and
  non-recurring expenses                                   --             1.3          11.6
                                                         -----          -----         -----
Operating income (loss)                                    3.6            0.9         (32.3)
Financial income (expenses), net                           0.3           (0.5)         (0.1)
Gain on realization of shareholdings                       0.7            0.0           1.8
Other income (expenses), net                               1.0           (4.3)         (6.9)
                                                         -----          -----         -----
Income (loss) before taxes on income                       5.6           (3.9)        (37.5)
Income tax expense                                         0.3            0.4           0.3
                                                         -----          -----         -----
                                                           5.3           (4.3)        (37.8)
Minority interest                                         (0.3)          (1.9)          2.2
Equity in losses of affiliated companies, net             (1.6)          (3.6)         (3.4)
                                                         -----          -----         -----
Net income (loss)                                          3.4           (9.9)        (39.0)
                                                         =====          =====         =====
</TABLE>

Years Ended December 31, 2003 and 2002

         Revenues. Revenues increased 48% from $36.7 million in 2002 to $54.3
million in 2003. This increase is mainly attributable to the consolidation of
Liraz's business, beginning with the fourth quarter of 2002. In addition, our
revenues increased as a result of the initial recovery in the markets in which
we operate, leading to increased IT spending, which in turn increased our sales.
During the second half of 2003, we had several cross-sales of our modernization
solutions to veteran AppBuilder customers of Liraz.

                                       39
<PAGE>

         The table below presents the breakdown of our revenues based on the
location of our customers for the periods indicated:

                                                  2003        2002        2001
                                                 -----       -----       -----

                                                     %           %           %
          United States                             34          57          56
          Europe (Other then Denmark)               36          21          22
          Denmark                                   17           7           -
          Israel                                     7          13          20
          Other                                      6           2           2
                                                ------      ------      ------
          Total                                    100         100         100

         Cost of revenues. Cost of revenues consists primarily of salaries,
travel costs relating to products and services rendered, and consulting fees
paid to independent contractors. Due to the overall growth in the volume of our
activities, cost of revenues increased 58% from $15.2 million in 2002 to $24.1
million in 2003. Cost of revenues as a percentage of revenues increased to 44%
in 2003 compared to 42% in 2002. The increase in cost of revenues was partially
attributable to the temporary overlapping functions caused by to the
consolidation of Liraz's business. During 2003, we further implemented our
integration plan that was aimed at aligning our cost structure with our revenue
stream, while realizing the benefits of the local and offshore delivery centers.

         Software development costs. Software development costs, gross, consist
primarily of salaries and consulting fees that are paid to professionals engaged
in the development of new software tools and related methodologies. Software
development costs, net, consist of software development costs, gross, less
development grants and capitalized software costs. During 2003, our subsidiary,
Mainsoft, accrued an aggregate of $570,000 in grants from the Office of the
Chief Scientist, for the development of Visual MainWin(R) for J2EE.

         Software development costs, gross, increased 21% from $9.8 million in
2002 to $11.9 million in 2003. As a percentage of revenues, software development
costs, gross decreased to 22% in 2003 compared to 27% in 2002. This decrease was
part of our cost alignment plan according to which some of our development
activities have been re-allocated to our own offshore subsidiaries, which
perform these activities at lower costs. In addition, some of our development
activities were consolidated into competence centers, where the expertise in
certain areas is concentrated.

         During 2003, our development costs were attributed to the development
of our unique modernization suite of tools. Software development costs are
charged to operations as incurred, unless capitalized according to Financial
Accounting Standards Board Statement No. 86. In 2003, we capitalized software
development costs in an aggregate amount of $3.2 million. Software development
costs, net, increased 10% from $7.4 million in 2002 to $8.1 million in 2003. As
a percentage of revenues, software development costs, net decreased from 20% in
2002 to 15% in 2003. Net software development costs related to development of
tools through our affiliates are included in our consolidated financial
statements under "Equity in Losses of Affiliated Companies, Net."


                                       40
<PAGE>

         Selling, general and administrative expenses. Selling, general and
administrative expenses consist primarily of wages and related expenses, travel
expenses, third party commissions, selling expenses, marketing and advertising
expenses, rent, insurance, utilities, professional fees, and depreciation.
Selling, general and administrative expenses increased 52% from $13.2 million in
2002 to $20.1 million in 2003. As a percentage of revenues, selling, general and
administrative expenses increased to 37% in 2003 compared to 36% in 2002. This
increase in selling, general and administrative expenses is primarily
attributable to the temporary overlapping functions caused due to the
consolidation of Liraz's business as well as to the enlarged infrastructure
required to support the consolidated company.

         In 2002 and 2003, amortization of goodwill was not included in general
and administrative expenses, pursuant to Financial Accounting Standards Board
Statement No. 141, or SFAS 141. Under SFAS 141, all investments were evaluated
and their utilization was determined according to their anticipated contribution
to the business, and under SFAS 141, no additional write-downs were required to
be made.

         Financial income (expenses), net. Financial income increased in 2003 to
$165,000 compared to financial expenses of $195,000 in 2002. In 2003, financial
income consisted primarily of currency rate differentials with respect to
short-term deposits as a result of the devaluation of the NIS against the dollar
and the devaluation of the dollar against the euro. In addition, the reduction
in the interest rate on short-term loans lowered our financial expenses. In
2002, financial expenses consisted primarily of interest paid to banks on
short-term loans, which was offset by interest income we derived on short-term
deposits.

         Other income (expenses), net. Other income, net in 2003 was $567,000
compared to other expenses, net of $1.6 million in 2002. Other income in 2003
consists primarily the decrease in the bank guarantee that secured an overdraft
of Level 8. This income was partially offset by the write-down of $350,000
related to loans that were previously made to an investee due to limited
visibility of the repayment. Other expenses in 2002 consist primarily of a
write-down of an investment.

         Income tax expense. In 2003, we had income tax expense of $152,000
compared to income tax expense of $160,000 in 2002. This net aggregate expense
is composed of local taxes paid worldwide by our international subsidiaries.

         Minority interest. The minority interest is comprised of the net
profits or losses assigned to the minority shareholders of our subsidiaries. In
2003, the net charge was $154,000 compared to $702,000 in 2002. The reduction in
minority interest is attributable to the acquisition of minority interest in
some of our subsidiaries that was completed in 2003.

         Equity in losses of affiliated companies, net. In 2003, equity in
losses of affiliated companies, net, was $900,000. Equity in losses of
affiliated companies in 2003 includes an aggregate amount of $900,000
representing our share in the losses of our affiliate Intercomp, an amount of
$200,000 representing our share in the losses of our affiliates M.S.I. MultiConn
and

                                       41
<PAGE>

MultiConn Technologies, partially offset by $200,000 representing our share in
the gains of Tesnet.

Years Ended December 31, 2002 and 2001

         Revenues. Revenues decreased 5% from $38.4 million in 2001 to $36.7
million in 2002. This decrease was primarily attributable to the slow-down in
the global economy that caused customers to delay technology purchase orders.
This decrease was partially offset by the consolidation of Liraz's results of
operations in the fourth quarter of 2002. The acquisition of Liraz was aimed to
increase our business volume and improve our operating results by leveraging
Liraz's international sales force and presence.

         Cost of revenues. Cost of revenues decreased 14% from $17.7 million in
2001 to $15.2 million in 2002. Cost of revenues as a percentage of revenues
decreased to 42% in 2002 compared to 46% in 2001. The decrease in cost of
revenues was primarily attributable to the implementation of our cost reduction
plan in the fourth quarter of 2001 that was aimed at aligning our cost structure
with our revenue stream. According to our cost reduction plan, we reduced our
sale and managerial personnel, decreased wages and tightened our expense
structure.

         Software development costs. Software development costs, gross,
decreased 18% from $12.0 million in 2001 to $9.8 million in 2002. This planned
decrease was part of our cost reduction plan. During 2002, our development costs
were attributed to the development of our unique modernization suite of tools.
As a percentage of revenues, software development costs, gross, decreased to 27%
in 2002 compared to 31% in 2001. Software development costs are charged to
operations as incurred, unless capitalized according to Financial Accounting
Standards Board Statement No. 86. In 2002, we capitalized software development
costs in an aggregate amount of $3.3 million. Software development costs, net,
decreased 17% from $8.9 million in 2001 to $7.4 million in 2002. As a percentage
of revenues, software development costs, net, decreased from 23% in 2001 to 20%
in 2002. Net software development costs related to development of tools through
our affiliates were included in our consolidated financial statements under
"Equity in Losses of Affiliated Companies, Net."

         Selling, general and administrative expenses. Selling, general and
administrative expenses decreased 33% from $19.8 million in 2001 to $13.2
million in 2002. As a percentage of revenues, selling, general and
administrative expenses decreased to 36% in 2002 compared to 52% in 2001. This
decrease is primarily attributable to the implementation of our cost reduction
plan. In 2001, we charged the amortization of goodwill to general and
administrative expenses. In 2002, no such charges were included pursuant to
Financial Accounting Standards Board Statement No. 141.

         Financial expenses, net. Financial expenses increased in 2002 to
$195,000 from $62,000 in 2001. The increase in our cash and cash equivalents
caused a decrease in the financial expenses. This decrease was offset by the
devaluation of the NIS and the euro against the dollar.

         Goodwill impairment, restructuring costs and non-recurring expenses. In
2002, we purchased a 90% interest in Liraz, resulting in $472,000 of
restructuring costs in the fourth

                                       42
<PAGE>

quarter of 2002. These costs were attributable primarily to payments related to
dismissal of employees. Our results of operations in 2001 were materially
affected by the implementation of our restructuring plan, resulting in
non-recurring expenses that included $2.8 million of restructuring costs
consisting primarily of employee termination benefits and other exit expenses,
and goodwill impairment of $1.7 million related to an acquisition.

         Other expenses, net. Other expenses, net in 2002 were $1.6 million
compared to other expenses, net of $2.6 million in 2001. Other expenses in 2002
consist primarily of a write-down of an investment. Other expenses in 2001
consist of a write-down of an investment of $2.5 million and loss from disposal
of fixed assets.

         Income tax expense. In 2002, we had income tax expense of $160,000
compared to income tax expense of $115,000 in 2001. This increase is primarily
attributable to local taxation of European subsidiaries that had taxable income.

         Equity in losses of affiliated companies, net. In 2002, equity in
losses of affiliated companies, net, was $1.3 million. Equity in losses of
affiliated companies in 2002 includes aggregate amount of $1.4 million
representing our share in the losses of our affiliate Intercomp, partially
offset by $80,000 representing our share in the gains of Tesnet.

B.       Liquidity and Capital Resources

How We Have Financed Our Business

         In 1997, we consummated two public offerings, and received net proceeds
of $33.9 million after deducting underwriting discounts and commissions and
offering expenses. In the first quarter of 2004, we completed a $5 million
private placement of convertible debentures and warrants to four institutional
investors. In addition, we have entered into several credit facilities with
banks, which we may use from time to time for interim financing, in accordance
with our cash requirements. These credit facilities provide for short-term
loans, are in various currencies and bear various interest rates.

Cash
         On December 31, 2003, we had cash and cash equivalents (including
marketable securities) of $11.5 million and working capital of $246,000. On
December 31, 2002, we had cash and cash equivalents (including marketable
securities) of $15.9 million and working capital of $1.3 million.

         Net cash provided by operating activities was $2.5 million in 2003
compared to $2.8 million in 2002. Cash provided by operating activities in 2002
was primarily the result of add-backs from depreciation and amortization and a
decrease in trade receivables. This was partially offset by our net losses of
$3.6 million and a decrease in trade payables and other accounts payable. Cash
provided by operating activities in 2003 was primarily the result of our $1.9
million net income and add-backs due to depreciation and amortization. This was
partially offset by an increase in trade receivables and a decrease in other
accounts payable.

                                       43
<PAGE>

         As of December 31, 2003, we had short-term bank debt outstanding of
$8.3 million, compared to $7.5 million as of December 31, 2002. In connection
with credit lines extended to us by several banks, we are committed to certain
covenants related to our operations, such as maintaining a minimum level of
shareholders' equity and reaching certain operating results targets. To date, we
have met all such covenants.

         Liraz has a fixed charge in favor of a bank on certain of its assets,
as well as a floating charge on its entire assets, securing Liraz's long-term
credit facility of $4.7 million. This credit facility also covers guarantees of
$2 million in the aggregate that we extended to banks relating to the credit
line of Level 8. As consideration for the extension of such guarantees, which
will be outstanding until November 2004, we were issued 300,000 Level 8 ordinary
shares.

         In addition, we have guaranteed short-term bank loans of affiliates. As
of May 21, 2004, the aggregate amount of these guarantees was approximately $1
million.

         In connection with the purchase of Outlook Systems Ltd.'s software
development services activity, in 2004, we extended a guarantee to banks with
respect to loans in an aggregate amount of $720,000 plus interest accrued, to be
repaid by us by February 15, 2007.

         On March 30, 2004, we completed a $5 million private placement to
institutional investors. Under the terms of this transaction, we issued to the
institutional investors convertible debentures, bearing interest at an annual
rate of 2%. In addition, the institutional investors were granted warrants with
an aggregate exercise price of $2.85 million exercisable into BluePhoenix
ordinary shares. The warrants are exercisable during a period of 5 years
commencing on September 2004. Under certain circumstances, the institutional
investors may increase their investment by an additional $3 million of
debentures and receive warrants on the same terms as the initial warrants,
exercisable into such number of BluePhoenix ordinary shares equal to 50% of the
ordinary shares into which the debentures are convertible. Following the
completion of the $5 million private placement in March 2004, we had cash and
cash equivalents of $16.6 million, and short-term bank credit of $7.8 million.
For more information regarding the private placement, see "Item 6.E. Share
Ownership: Arrangements Involving the Issue of BluePhoenix' Shares or Grant of
Options to Purchase Shares--Convertible Debentures and Warrants Purchased by
Institutional Investors."

         Typical modernization projects, which deploy our solutions, are
long-term projects, and therefore, payment for these projects or a substantial
portion of our fees may be delayed until the successful completion of specified
milestones and customer acceptance for the completed work. During 2004 we
mutually agreed with a customer, to terminate a contract. As a result we
recorded a loss of $400,000 in the first quarter of 2004. The payment of our
fees is dependent upon customer acceptance of the completed work, and our
ability to collect the fees. Further, although the timing of receipt of our fees
varies, we incur the majority of our expenses on a current basis. As a result, a
delay in the collection of our fees could result in cash flow shortages.

                                       44
<PAGE>

Capital Expenditures

         Our capital expenditures were $867,000 in 2003 and $823,000 in 2002.
Our capital expenditures in these years related primarily to purchases of
computers and related equipment required to support our software development
activities. In 2003, we invested $200,000 and lent $1.1 million to affiliated
companies. In 2002 and 2001, we lent $2.2 million and $4.7 million,
respectively, to affiliated companies.

         In 2002, we purchased a 90% controlling interest in Liraz through a
share exchange transaction that was followed by a cash tender offer. We paid for
the tendered shares aggregate consideration of $1.1 million. During 2003, we
completed an additional tender offer and purchased the remaining outstanding
share capital of Liraz for an aggregate of $1.5 million.

         During 2002, we repurchased 104,465 of our ordinary shares for an
aggregate of $200,000. During 2003, we did not repurchase any additional shares.
As of May 21, 2004, we repurchased 1,870,565 of our ordinary shares under our
buy-back programs, for an aggregate of approximately $14.7 million. Under these
programs, we may purchase our shares from time to time, subject to market
conditions and other relevant factors affecting us. Under the Companies Law, the
repurchased shares are considered dormant shares. We may not resell these shares
unless (i) they are registered for resale under an effective registration
statement pursuant to the Securities Act of 1933, as amended, referred to as the
Securities Act; or (ii) pursuant to an exemption from registration under the
Securities Act. The first buy-back program adopted in May 1998, enables us to
purchase our shares, through a subsidiary, utilizing up to $5.0 million. Under
the second buy-back program adopted in September 1998, and amended in May 1999,
we may purchase, through a subsidiary as a trustee, up to an additional
1,400,000 ordinary shares. Under the two plans we may acquire an additional
1,044,351 shares at the current stock price. The closing price of our ordinary
shares as quoted on the NASDAQ National Market on May 2121, 2004 was $5.27.
Under the agreement we entered into in connection with the private placement in
March 2004, we are restricted to use only up to $200,000 for the repurchase of
our shares, as long as 20% or more of the debentures are outstanding.

         We believe that cash generated from operations together with existing
sources of liquidity and cash flow, will be sufficient to meet our anticipated
cash needs for at least the next 18 months.

Contractual Commitments and Guarantees

         Under our licensing agreement with Microsoft, Mainsoft is obliged to
pay to Microsoft royalties based upon the licensing of the Visual MainWin(R)
products, which include the software Mainsoft licenses from Microsoft. In
December 2003, we entered into an independent contractor agreement with
Microsoft. In accordance with this agreement, Microsoft agreed to apply the
value of the services we performed under the independent contractor agreement to
accrued royalties of up to $1,605,131. During the year ended December 31, 2003,
we accrued royalties due to Microsoft of $2,782,000, and recognized credits
(reductions to expense) related to waivers and to services performed of
$2,466,000 and $999,000, respectively. For more information about our licensing
agreement with Microsoft, see "Item 10.C. Material Contracts--Licensing
Agreement with Microsoft."

                                       45
<PAGE>

         Under funding agreements two of our subsidiaries have entered into with
the Office of the Chief Scientist, or the OCS, these subsidiaries are obliged to
pay royalties to the OCS at a rate of 3% on sales of the funded products, up to
100% of the dollar-linked grant received in respect of these products from the
OCS. As of December 31, 2003, the aggregate amount of grants received by our
subsidiaries from the OCS was $820,000.

         In the first quarter of 2004, the Singapore-Israel Industrial Research
and Development Foundation agreed to provide CePost together with a company
incorporated in Singapore, financing for the development of Report-IT.
Accordingly, the foundation agreed to award CePost up to $100,000 payable
according to an agreed upon schedule. CePost is required to repay that amount in
payments based on sales of the Report-IT up to the amount of the grant.

         We are obligated to pay to Formula management fees in an annual amount
equal to 3% of our revenues, but no more than the NIS equivalent of $180,000.

         We are committed under operating leases for rental of office facilities
for the years 2004 until 2006. Annual rental fees under current leases are
approximately $1.7 million, and are expected to remain at this level for each of
the next three years. In connection with these leases, we issued bank guarantees
of $113,000 in the aggregate.

         We guaranteed short-term bank loans of affiliated companies in favor of
a bank. As of May 21, 2004, these guarantees amounted to approximately $1.0
million.

         During 2000, Liraz provided a bank guarantee to secure a loan of Level
8. As of December 31, 2003, this guarantee amounted approximately $2.0 million.
Level 8 committed to utilize 10% of any capital funding to repay the loan and
reduce the amount of the guarantee accordingly.

         In connection with the purchase of Outlook Systems Ltd.'s software
development services activity, in 2004, we extended a guarantee to banks with
respect to loans in an aggregate amount of $720,000 plus interest accrued, to be
repaid by us by February 15, 2007. For more information, see "Item 4. B.
Business Overview - Investments and Acquisition - Outlook"

         In January 2001, we granted FIMI, a creditor of Intercomp, a put option
to sell to us promissory notes issued by Intercomp in an aggregate principal
amount of $3.5 million plus interest accrued since January 2001 at an annual
rate of 5%, which could be paid, subject to FIMI's approval, in BluePhoenix
ordinary shares. The number of ordinary shares subject to the option will be
calculated based on the average market price of the shares during the 14 trading
days prior to the exercise of the option. In August 2003, the terms of FIMI's
option were amended, allowing FIMI to exercise its option in three installments
during June 2004, June 2005 and June 2006. At our option, we may pay FIMI the
consideration in BluePhoenix ordinary shares. However, if FIMI so requests, we
will have to pay FIMI the consideration for the promissory note in cash but then
such payment shall be postponed to September 30, 2006. FIMI submitted a notice
to exercise the June 2004 installment for cash, thus postponing the payment of
the respective portion of the consideration to September 30, 2006. After
accounting for this payment, there remains $2.33 million of the principal amount
of the promissory notes plus interest accrued that may be paid, as described
above, in BluePhoenix ordinary shares. In addition, as part of the
consideration, we are obliged to issue to FIMI warrants to purchase up to
336,000 of our ordinary shares exercisable until June 30, 2007, at an exercise
price of $4.00 per share.

                                       46
<PAGE>
         In April 2004, a shareholder of Intercomp comprised of several funds
acting through their general partner, Israel Infinity Venture Capital Partners
Ltd., referred to as Infinity, granted us a call option to purchase its entire
holdings in Intercomp, exercisable until April 1, 2006. If we do not exercise
such option, Infinity will have a put option to cause us to purchase Infinity's
entire holdings in Intercomp, exercisable during a period of six months
commencing in April 2006. If either of the options is exercised, we shall be
obliged to issue to Infinity, as consideration for Intercomp's shares, 100,000
BluePhoenix ordinary shares and an additional amount of shares to be calculated
based on revenues generated from the sale of licenses to use Intercomp's
products. The shares will be subject to a lock-up period until April 1, 2006. We
may, at our option, pay to Infinity the cash equivalent of such shares which
will be calculated according to the average closing price of BluePhoenix shares
during the 20 trading days prior to the exercise of any of the options.

         In February 2003, the Israeli Income Tax Authorities issued to
BluePhoenix an income tax assessment for the tax year ended December 31, 1997 in
the amount of approximately $1.5 million. Following an appeal we filed on this
assessment, we received a revised tax assessment for the tax years ended
December 31, 1997 through 2001 of approximately $1.2 million. As agreed with the
tax authorities, although the revised assessment is not yet final, we are
required to pay a down payment of approximately $800,000 in 24 monthly
installments until December 2005. This tax expense is fully offset against
previously existing tax reserves. Based on the opinion of our tax counsel, we
believe that while the outcome of any controversy cannot be predicted with
complete certainty, this dispute with the Israeli income tax authorities will be
resolved so as not to have a material adverse effect on our financial statements
as a whole.

         We entered into an undertaking to indemnify our office holders in
specified limited categories of events and in specified amounts, subject to
certain limitations. For more information, see "Item 7.B. Related Party
Transactions--Indemnification of Office Holders."

Effective Corporate Tax Rates

         In 1996, 1997 and 1998, certain of our operations were granted
"approved enterprise" status under the Law for the Encouragement of Capital
Investments 1969, known as the Investments Law. If we comply with all
requirements, we shall be eligible for certain tax benefits with respect to
these operations, for the first seven years in which they generate taxable
income. Income derived from our approved enterprise programs will be tax exempt
for a period of two years after we have taxable income, and will be subject to a
25% company tax rate for the following five years. We completed the tax
exemption period of some of our qualified "approved enterprise" operations and,
therefore, these operations are subject to a 25% income tax commencing 1999. If
the percentage of our share capital held by foreign shareholders exceeds 25%,
future approved enterprises would qualify for reduced tax rates for an
additional three years, after the seven years mentioned above. However, we
cannot assure you that we will obtain additional "approved enterprise" status
for our operations, or that the provisions of the Investments Law will not
change, or that the above-mentioned shareholding portion will be reached or
maintained for each subsequent year.

         On January 1, 2003, Israel's tax laws underwent a significant tax
reform (Amendment 132 to the Income Tax Ordinance (New Version) - 1961),
referred to as the New Law. The underlying principle of the New Law is to
broaden the categories of taxable income, and reduce the tax rates imposed on
employment income. Among the key provisions of this reform legislation are (i)
changes which may result in the imposition of taxes on dividends received by an
Israeli company from its foreign subsidiaries; and (ii) the introduction of the
controlled foreign corporation concept according to which an Israeli company may
become subject to Israeli taxes on certain income of a non-Israeli subsidiary if
the subsidiary's primary source of income is passive income (such as interest,
dividends, royalties, rental income or capital gains). An Israeli company that
is subject to Israeli taxes on the income of its non-Israeli subsidiaries will
receive a credit for income taxes paid by the subsidiary in its country of
residence.

                                       47
<PAGE>

         Our international operations are taxed at the local effective corporate
tax rate in the countries of our subsidiaries' residence. We believe that in the
future we will derive an increasing percentage of our income from operations
outside of Israel and that, accordingly, our effective tax rate may increase.
However, we expect that this increase will be offset by carried forward
accumulated losses of consolidated companies. As a result, we anticipate that
our net effective tax rate in the foreseeable future shall be lower than 25%.

C.       Research and Development, Patents and Licenses

         For a description of our research and development activities, see "Item
4.B. Business Overview-Research and Development."

         For information concerning our intellectual property rights, see "Item
4.B. Business Overview-Intellectual Property."

D.       Trend Information

         We have been affected by global economic changes, in particular the
sharp decline in capital spending in the information technology, or IT, sector
and the overall business slow-down in North America and Europe, as well as in
Israel. Uncertainties in the North American and European markets have influenced
the purchasing patterns of leading software developers who delayed their planned
orders and caused developers to reduce the amount of their planned license
commitment. These changes in purchasing patterns in the IT industry directly
affect our operating results. Our revenues decreased from $49.2 million in 2000
to $38.4 million in 2001 and to $36.7 million in 2002. In 2003, as a result of a
slight recovery of the market, and the impact of a strategic acquisition we
completed, this trend changed, and our revenues increased to $54.3 million. We
cannot know whether the global market will recover in the future, and how the
economic conditions will continue to affect our business. As we continue to
market new products and penetrate international markets, we expect our selling,
general and administrative expenses to continue to be relatively high.

         In March 2003, we completed the acquisition of the entire outstanding
share capital of Liraz. While we have already concluded the integration of
Liraz's infrastructure, management, personnel and sales and marketing activities
within our business, we are still in the process of integrating Liraz's
technology, products, service offerings and research and development activities.
We expect that as a result of the integration of our business with that of
Liraz, the combined companies will be able to realize greater operating
efficiencies and will benefit from a broader product line with a larger and more
diversified marketing and support network. In addition, we anticipate that the
combination of our respective technical personnel will enhance our product
development capabilities. The achievement of these benefits depends, however, on
our ability to successfully complete the integration of Liraz's business in our
business. We may also encounter difficulties in penetrating markets in which we
have no or limited experience. We cannot assure you that we will be able to
successfully complete the integration of Liraz's business with our own without
encountering difficulties. This in turn may materially adversely affect our
business, financial condition and our quarterly and annual results of
operations.


                                       48
<PAGE>

E.       Off-Balance Sheet Arrangements

         The Company has no off-balance sheet arrangements.

                                       49
<PAGE>

F.       Tabular Disclosure of Contractual Obligations

         The following table summarizes our contractual obligations and
commitments as of December 31, 2003:

<TABLE>
<CAPTION>

                                                                 Payment due by period
                                                                 ---------------------
                                                                                              More
                                                         Less than 1     1-3         3-5     than 5
                                                Total        year        years       years    years
                                                -----    -----------     -----       -----    -----
                                                                   $ in thousands

<S>                                             <C>         <C>         <C>
      Long term debt obligations                12,138      1,964       10,174         -        -

      Capital (finance) lease obligations        3,300      1,565        1,733         2        -

      Operating lease obligations                1,050        656          391         3        -
                                                ------      -----       ------       ---       ---

      Total                                     16,488      4,185       12,298         5        -
</TABLE>

         The above table does not include royalties that we may be required to
pay to the OCS and which may reach, in the aggregate, $820,000, as of January 1,
2004 (see "Item 4.B. Business Overview--Research and Development."). We are
unable to reasonably estimate the time and the amounts that we will eventually
be required to pay to the OCS, if at all, since these amounts depend on our
ability to sell products based on the OCS-funded technologies and the timing of
such sales, if any.



                                       50
<PAGE>

ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

A.       Directors and Senior Management

         The following table describes information about our executive officers
and directors as of May 21, 2004.

Name                              Age           Position
----                              ---           --------

Gad Goldstein                      45    Chairman of the Board
Aaron Crystal                      60    Vice Chairman of the Board, President
Arie Kilman                        51    Chief Executive Officer, Director
Iris Yahal                         43    Chief Financial Officer, Director
Dan Goldstein                      50    Director
Shai Beilis                        55    Director
Chanan Weiss                       57    Director
Michael Chill (1)                  37    Director
Katriel Zimet (1)                  76    Director

----------------
(1)  An outside director

         Gad Goldstein has served as a chairman of our board of directors since
April 1998 and as a director of Formula since January 1985. Mr. Goldstein was
the vice president of Formula from 1985 through 1995 and was appointed president
of Formula in 1995. He is also a director of other companies within the Formula
Group, including Matrix IT Ltd., or Matrix, Magic Software Enterprise Ltd., or
Magic, Formula Vision Technologies (F.V.T.) Ltd. and Sapiens International
Corporation N.V., all of which are publicly traded companies. Mr. Goldstein
holds a BA in economics and an MA in business administration, both from Tel Aviv
University. Gad Goldstein is the brother of Dan Goldstein, one of our directors.

         Aaron Crystal served as our president, chief executive officer and
director since our formation in 1987 to December 1996 and continues to serve as
our president and one of our directors. Since November 1999, he has also served
as vice chairman of the board of directors. From 1983 to 1987 Mr. Crystal was
vice president--technical support of Mehish Computer Services.

         Arie Kilman has served as our chief executive officer since May 2003.
Mr. Kilman has also served as president and chief executive officer of
BluePhoenix Solutions B.V. since its inception in October 2001. Mr. Kilman
previously served as the president of Liraz, which he founded in 1984, and
managed since then. From 1998 to 2000, Mr. Kilman served as chief executive
officer of Level 8. Mr. Kilman holds a BA degree in economics and computer
science from New York University.

         Iris Yahal has served as one of our directors since January 1, 1999 and
as our chief financial officer since October 1995. In addition, Ms. Yahal served
as the controller of several other Formula subsidiaries until December 1996.
From 1991 until 1996, Ms. Yahal served as the controller of Transtech Control
Ltd., a subsidiary of Formula. Prior to 1991, Ms. Yahal worked as an auditor
with Wallenstein and Co., a public accounting firm. Ms. Yahal holds a BA in


                                       51
<PAGE>

accounting and an MA in business administration, both from Tel Aviv University
and is a certified public accountant in Israel.

         Dan Goldstein has served as one of our directors since March 1993. Mr.
Goldstein has served as chairman of the board of directors and chief executive
officer of Formula since 1985. Mr. Goldstein is also chairman of the board of
Formula Vision and Matrix and is a director of Magic and Sapiens. Mr. Goldstein
holds a BA in mathematics and computer sciences and an MA in business
administration, both from Tel Aviv University. Dan Goldstein is the brother of
Gad Goldstein.

         Shai Beilis served as chairman of our board of directors from December
1995 until April 1998 and as vice chairman of our board of directors from April
1998 until November 1999. Mr. Beilis continues to serve as one of our directors
and as a member of our audit committee. Mr. Beilis currently serves as chairman
and chief executive officer of Formula Ventures. Mr. Beilis has also served as a
director of Formula since December 1997. From July 1993 to the beginning of
1995, Mr. Beilis served as the managing director of Clal Computers and
Technology Ltd., an Israeli information technology company. Mr. Beilis holds a
B.Sc. in mathematics and economics from the Hebrew University in Jerusalem and
an MA in computer science from the Weizmann Institute of Science.

         Chanan Weiss joined us in April 2001 as a managing director. From
February 2002 through May 2003, he served as our chief executive officer. Since
February 2002, Mr. Weiss has also served as one of our directors. From February
2000 until April 2001, Mr. Weiss served as an executive vice president and chief
operating officer of Matrix. Prior to that, from April 1999, Mr. Weiss served as
managing director of Nikuv Computers (Israel) Ltd., a subsidiary of Matrix. From
1988 through 1999 Mr. Weiss occupied various managerial positions in IBM Israel.
Mr. Weiss holds a B.Sc. degree in Physics from the Technion in Haifa.

         Katriel Zimet has served as one of our independent directors and a
member of our audit committee since January 1999. On December 31, 1999, he was
appointed as one of our outside directors, under the Companies Law. From 1992
until November 1997, Mr. Zimet served as a director of Formula. Since 1987, Mr.
Zimet has served as an independent consultant for information systems technology
to the Israeli national board of education. Until 1986, Mr. Zimet was director
of computing facilities of Telrad Networks Ltd., a major Israeli
telecommunications company.

         Michael Chill has served as one of our independent directors and a
member of our audit committee since July 2003. From July 2003, Mr. Chill has
served as an investment analyst at the hedge fund Vertical Ventures LLP. Prior
to that, Mr. Chill was an independent advisor to various high technology
companies and venture capital firms both in Israel and the United States. During
2000 and the first half of 2001, Mr. Chill served as the president and head of
investment banking department at Jerusalem Global Ltd., a venture capital and
investment banking firm. Prior to that, from 1999, Mr. Chill served as a
managing director in the technology investment banking group at Gruntal and Co.
Mr. Chill holds a B.S. in accounting from the Sy Syms School of Business at
Yeshiva University and an MBA from the Columbia Business School.


                                       52
<PAGE>

B.       Compensation

         During the year ended December 31, 2003, we paid to our outside
directors and executive officers aggregate remuneration of approximately
$622,000. This amount includes amounts set aside or accrued to provide pension,
social security or similar benefits but does not include amounts expended by us
for automobiles made available to our officers and expenses (including business
travel, professional and business association dues and expenses) reimbursed to
officers.

         The aggregate remuneration set forth in the foregoing paragraph does
not include amounts we paid to Formula under the terms of a management
agreement, as consideration for management services rendered to us by certain
directors designated by Formula. These directors currently include Gad
Goldstein, Dan Goldstein and Shai Beilis. See "Item 7.B. Related Party
Transactions."

         We maintain written employment agreements with Arie Kilman, Iris Yahal
and Aaron Crystal. The employment agreements are not for a specific term and we
may terminate any of them upon prior notice of between three and six months.
These agreements provide for annual base salaries and other benefits like
vacation, sick leave, provision of automobiles, insurance contributions and
non-compete and confidentiality agreements. The agreements also entitle Mr.
Kilman and Ms. Yahal to bonuses based on achieving targets set by our board of
directors. Under the terms of Mr. Crystal's employment agreement, upon our
initial investment in an unaffiliated entity, Mr. Crystal has the right to
co-invest, on the same terms as we invest, in an amount equal to 10% of our
initial investment.

         Mr. Kilman, in his former position as Liraz's chairman of the board of
directors was granted by Liraz in May 2002 a loan of approximately NIS 1.2
million (approximately $300,000), linked to the Israeli consumer price index,
and bearing annual interest at a rate of 4%. Under the terms of the loan, the
loan should be repaid to Liraz in four equal annual installments until 2006, but
no later than termination of Mr. Kilman's employment. Mr. Kilman pledged in
favor of Liraz 200,000 Liraz's shares he owned as a security for repayment of
the loan. Following the share exchange transaction, Mr. Kilman replaced the
pledged shares with 119,760 BluePhoenix shares. As of May 21, 2004, Mr. Kilman
repaid $150,000 of the principal amount of the loan plus linkage differentials
and accrued interest. Accordingly, one half of the pledged shares were released
from the pledge.

C.       Board Practices

         Pursuant to our articles of association, directors are elected at a
general meeting of our shareholders by a vote of the holders of a majority of
the voting power represented at the meeting. Additional directors may be elected
between general meetings by a majority of our directors. Our board is comprised
of 9 persons, of which 2 have been determined to be independent within the
meaning of the applicable NASDAQ requirements. The board includes two outside
directors mandated under Israeli law and subject to additional criteria to help
ensure their independence. See "Outside Directors," below. Each director, except
for the outside directors, holds office until the next annual general meeting of
shareholders. Officers are

                                       53
<PAGE>

appointed by our board of directors. We compensate our outside directors in an
annual amount of $12,000 each. We do not compensate our other directors for
their services as directors (other than compensation we pay to Formula pursuant
to our management agreement with it). For information regarding the employment
agreements of our officers, see "Item 6.B. Compensation." For additional
information, see "Item 7.B. Related Party Transactions."

         Companies trading on The NASDAQ Stock Market are generally required to
have a majority of their board members be independent. We are exempt from this
requirement under the "controlled company" exemption because more than 50% of
our voting power is held by Formula.

Outside Directors

         Under the Companies Law, companies incorporated under the laws of
Israel whose shares have been offered to the public in or outside of Israel, are
required to appoint at least two outside directors. The Companies Law provides
that a person may not be appointed as an outside director if the person or the
person's relative, partner, employer or any entity under the person's control,
has, as of the date of the person's appointment to serve as outside director, or
had, during the two years preceding that date, any affiliation with the company
or any entity controlling, controlled by or under common control with the
company. The term "affiliation" includes:

          o    an employment relationship;
          o    a business or professional relationship maintained on a regular
               basis;
          o    control; and
          o    service as an office holder.

         No person may serve as an outside director if the person's position or
other business activities create, or may create a conflict of interest with the
person's responsibilities as an outside director or may otherwise interfere with
the person's ability to serve as an outside director. Outside directors are
elected by a majority vote at a shareholders' meeting, provided that either:

         (1) the majority of shares voted at the meeting, including at least
one-third of the shares of non-controlling shareholders or their representatives
voted at the meeting, vote in favor of election; or

         (2) the total number of shares of non-controlling shareholders voted
against the election of the outside director does not exceed one percent of the
aggregate voting rights in the company.

         The initial term of an outside director is three years and may be
extended for an additional three years. At present, Mr. Michael Chill and Mr.
Katriel Zimet serve as our outside directors, Mr. Chill to hold office until
July 2006 and Mr. Zimet until December 2004.

         Each committee exercising the powers of the board of directors is
required to include at least one outside director. However, the audit committee
should include all the outside directors.

                                       54
<PAGE>

       An outside director is entitled to compensation as provided in
regulations promulgated under the Companies Law and is otherwise prohibited from
receiving any compensation, directly or indirectly, in connection with services
provided as an outside director. We compensate our two outside directors in
accordance with regulations promulgated under the Israeli Companies Law, 1999.

Audit Committee

         The Companies Law requires public companies to appoint an audit
committee, comprising of at least three directors, including all of the outside
directors. The chairman of the board of directors, any director employed by or
otherwise providing services to the company, and a controlling shareholder or
any relative of a controlling shareholder, may not be a member of the audit
committee.

         In addition, under applicable NASDAQ rules, we are currently required
to have at least two independent directors and to maintain an audit committee,
at least a majority of whose members are independent of management. Our outside
directors qualify as independent directors under the applicable NASDAQ rules and
those of the Securities and Exchange Commission. We have established an audit
committee, consisting of our two outside directors, Mr. Michael Chill and
Katriel Zimet, as well as Shai Beilis. The board has determined that that
Michael Chill is an "audit committee financial expert" as defined by applicable
SEC regulations. See "Item 16A. Audit Committee Financial Expert."

         Under the Companies Law, the audit committee is responsible for
overseeing the business management practices of the company in consultation with
the company's internal auditor and the independent auditor, making
recommendations to the board to improve such practices and approving related
party transactions as required by law. In accordance with the Sarbanes-Oxley Act
and NASDAQ requirements, our audit committee is directly responsible for the
appointment, compensation and oversight of our independent auditors. In
addition, the audit committee is responsible for assisting the board in
monitoring our financial statements and the effectiveness of our internal
controls. We are in the process of implementing a formal audit committee charter
embodying these responsibilities.

Internal Auditor

         Under the Companies Law, the board of directors must appoint an
internal auditor, nominated by the audit committee. The role of the internal
auditor is to examine, among other matters, whether the company's actions comply
with the law and orderly business procedure. Under the Companies Law, the
internal auditor may be an employee of the company but not an office holder, or
an affiliate, or a relative of an office holder or affiliate, and he may not be
the company's independent accountant or its representative.


                                       55

<PAGE>

Approval of Certain Transactions under the Companies Law

         The Companies Law codifies the fiduciary duties that "office holders,"
including directors and executive officers, owe to a company. An office holder's
fiduciary duties consist of a duty of care and a duty of loyalty. The duty of
loyalty includes (i) avoiding any conflict of interest between the office
holder's position in the company and his personal affairs, (ii) avoiding any
competition with the company, (iii) avoiding exploiting any business opportunity
of the company in order to receive personal advantage for himself or others and
(iv) revealing to the company any information or documents relating to the
company's affairs which the office holder has received due to his position as an
office holder. Each person listed in the table under "Directors and Senior
Management" above is an office holder. Under the Companies Law, arrangements
regarding the compensation of directors require the approval of the audit
committee, the board of directors and shareholder approval.

         The Companies Law requires that an office holder of a company promptly
disclose any personal interest that he or she may have and all related material
information known to him or her, in connection with any existing or proposed
transaction by the company. In addition, if the transaction is an "extraordinary
transaction" as defined under Israeli law, the office holder must also disclose
any personal interest held by the office holder's spouse, siblings, parents,
grandparents, descendants, spouse's descendants and the spouses of any of the
foregoing. In addition, the office holder must also disclose any interest held
by any corporation in which the office holder owns 5% or more of the share
capital, is a director or general manager or in which he or she has the right to
appoint at least one director or the general manager. An "extraordinary
transaction" is defined as a transaction other than in the ordinary course of
business, otherwise than on market terms or that is likely to have a material
impact on the company's profitability, assets or liabilities.

         Under the Companies Law, after the office holder complies with the
disclosure requirements described above, only board approval is required for any
transaction which is not an extraordinary transaction, unless the articles of
association of the company provide otherwise, and provided the transaction is
not adverse to the company's interest. If the transaction is an extraordinary
transaction, the company must receive any approval stipulated by its articles of
association, the approval of the audit committee and the approval of the board
of directors, as well as shareholder approval. An office holder who has a
personal interest in a matter that is considered at a meeting of the board of
directors or the audit committee may not be present at this meeting or vote on
this matter.

         The Companies Law applies the same disclosure requirements to a
controlling shareholder of a public company, which includes a shareholder that
holds 25% or more of the voting rights in the company if no other shareholder
owns more than 50% of the voting rights in the company. Extraordinary
transactions with a controlling shareholder or in which a controlling
shareholder has a personal interest, and the terms of compensation of a
controlling shareholder who is an office holder, require the approval of the
audit committee, the board of directors and the shareholders of the company. The
shareholder approval must include at least one-third of the shareholders who
have no personal interest in the transaction and are present, in person or by
proxy, at the meeting or, alternatively, the total shareholdings of those who
have no personal

                                       56
<PAGE>

interest in the transaction who vote against the transaction must not represent
more than one percent of the voting rights in the company. In certain cases
provided in regulations promulgated under the Companies Law, shareholder
approval is not required.

         In a private placement of securities that will increase the relative
holdings of a shareholder that holds five percent or more of the company's
outstanding share capital (assuming the exercise or conversion of all securities
held by such person that are exercisable for or convertible into shares) or that
will cause any person to become, as a result of the issuance, a holder of more
than five percent of the company's outstanding share capital, the Companies Law
requires that the company receive its shareholders' approval. In certain cases
provided in regulations promulgated under the Companies Law, shareholder
approval is not required.

         Under the Companies Law, a shareholder has a duty to act in good faith
towards the company and other shareholders and to refrain from abusing his power
in the company including, among other things, voting in a general meeting of
shareholders on the following matters:

          o    any amendment to the articles of association;
          o    an increase of the company's authorized share capital;
          o    a merger; or
          o    approval of interested party transactions that require
               shareholder approval.

         In addition, any controlling shareholder, any shareholder who knowingly
possesses power to determine the outcome of a shareholder vote and any
shareholder who, pursuant to the provisions of a company's articles of
association, has the power to appoint or prevent the appointment of an office
holder in the company, is under a duty to act with fairness towards the company.
The Companies Law does not describe the substance of this duty.

         For information concerning personal interests of certain of our office
holders and our principal shareholders in certain transactions with us, see
"Item 7.B. Related Party Transactions."

Exculpation, Insurance and Indemnification of Directors and Officers

         Under the Companies Law, an Israeli company may not exempt an office
holder from liability with respect to a breach of his duty of loyalty, but may
exempt in advance an office holder from his liability to the company, in whole
or in part, with respect to a breach of his duty of care.

         Office Holder Insurance

         Our articles of association provide that, subject to the provisions of
 the Companies Law, we may enter into a contract for insurance of all or a part
 of the liability of any of our office holders imposed on the office holder in
 respect of an act performed in his or her capacity as an office holder, in
 respect of each of the following:

                                       57
<PAGE>

          o    a breach of his duty of care to us or to another person;
          o    a breach of his duty of loyalty to us, provided that the office
               holder acted in good faith and had reasonable cause to assume
               that such act would not prejudice our interests; or
          o    a financial obligation imposed on him or her in favor of another
               person.

         Indemnification of Office Holders

           Our articles of association provide that, subject to the provisions
  of the Companies Law, we may indemnify our office holders in respect of an
  obligation or expense specified below imposed on an office holder in respect
  of an act performed in his or her capacity as an office holder, as follows:

          o    a financial obligation imposed on him or her in favor of another
               person by a court judgment, including a compromise judgment or an
               arbitrator's award approved by court;
          o    reasonable litigation expenses, including attorney's fees,
               expended by an office holder or charged to the office holder by a
               court, in a proceeding instituted against the office holder by us
               or on our behalf or by another person, or in a criminal charge
               from which the office holder was acquitted, or in a criminal
               proceeding in which the office holder was convicted of an offense
               that does not require proof of criminal intent.

         We may undertake to indemnify an office holder as aforesaid, (a)
  prospectively, provided that the undertaking is limited to categories of
  events which in the opinion of our board of directors can be foreseen when the
  undertaking to indemnify is given, and to an amount set by our board of
  directors as reasonable under the circumstances and (b) retroactively.

         We have entered into an undertaking to indemnify our office holders in
specified limited categories of events and in specified amounts, subject to the
limitations set by the Companies Law and our articles of association, as
described above. For more information, see "Item 7.B. Related Party
Transactions--Indemnification of Office Holders."

         Limitations on Insurance and Indemnification

         The Companies Law provides that a company may not indemnify an office
holder nor enter into an insurance contract that would provide coverage for any
monetary liability incurred as a result of any of the following:

          o    a breach by the office holder of his duty of loyalty, unless the
               office holder acted in good faith and had a reasonable basis to
               believe that the act would not prejudice the company;
          o    a breach by the office holder of his duty of care if the breach
               was done intentionally or recklessly;
          o    any act or omission done with the intent to derive an illegal
               personal benefit; or
          o    any fine levied against the office holder.

                                       58
<PAGE>

         In addition, under the Companies Law, indemnification of, and
procurement of insurance coverage for, our office holders must be approved by
our audit committee and our board of directors and, in specified circumstances,
by our shareholders.

         We have procured directors' and officers' liability insurance and
obtained all necessary approvals.

         D.    Employees

               The table below presents certain information regarding the number
of our employees, the sector in which they are employed and their geographical
area of employment, in the periods indicated.

                                      2003             2002             2001
                                      ----             ----             ----
Technical Experts                      250              280              145
Research and Development               120              140               60
Sales and Marketing                     40               50               50
General and Administrative              75               70               45
                                       ---              ---              ---
Total                                  485              540              300
                                       ===              ===              ===

In Israel                              175              230              200
Outside Israel                         311              310              100

               These employees include expert consultants who we train for the
implementation of our modernization tools and methodologies.

               With respect to our employees in Israel, we are subject to
various Israeli labor laws and labor practices, and to administrative orders
extending certain provisions of collective bargaining agreements between the
Histadrut (Israel's General Federation of Labor) and the Coordinating Bureau of
Economic Organizations (the Israeli federation of employers' organizations) to
all private sector employees. For example, mandatory cost of living adjustments,
which compensate Israeli employees for a portion of the increase in the Israeli
consumer price index, are determined on a nationwide basis. Israeli law also
requires the payment of severance benefits upon the termination, retirement or
death of an employee. We meet this requirement by contributing on an ongoing
basis towards "managers' insurance" funds that combine pension, insurance and,
if applicable, severance pay benefits. In addition, Israeli employers and
employees are required to pay specified percentages of wages to the National
Insurance Institute, which is similar to the United States Social Security
Administration. Other provisions of Israeli law and regulations govern matters
such as the length of the workday, minimum wages, other terms of employment and
restrictions on discrimination. We are also subject to the labor laws and
regulations of other jurisdictions in the world where we have employees.

E.       Share Ownership

         The following table presents information regarding the ownership of our
ordinary shares

                                       59
<PAGE>

by the persons listed in the table under "Directors and Senior Management," as
of May 21, 2004. The percentage of outstanding ordinary shares is based on
13,522,139 ordinary shares outstanding as of May 21, 2004 (excluding 1,870,565
shares held by two of our wholly-owned subsidiaries).

<TABLE>
<CAPTION>

             Name            Shares beneficially owned (1)                  Options to
                                                                             purchase
                                                                          ordinary shares
                                      Number          Percentage of           Number
                                                       outstanding
                                                     ordinary shares

<S>                               <C>                   <C>                 <C>
Arie Kilman (2)                      591,814               4.4%              211,111 (2)

Dan Goldstein                        424,510               3.1%

Gad Goldstein                        330,628               2.4%

Aaron Crystal                      1,193,700(3)            8.8%

All directors and officers as      2,927,763              21.0%              387,111(4)
a group (10 persons) (4)
</TABLE>

-----------------
(1)   Each of the directors and executive officers not separately identified in
      the above table beneficially owns less than one percent of our outstanding
      ordinary shares (including options held by each of these persons) and have
      therefore not been separately disclosed.

(2)   Mr. Kilman was granted options to purchase ordinary shares under the
      following terms: (i) Options to purchase 375,000 ordinary shares
      exercisable at $2.25 per share and (ii) Options to purchase 200,000
      ordinary shares exercisable at $4.00 per share. Out of these grants
      150,000 and 61,111 options to purchase ordinary shares are currently
      exercisable, respectively.

(3)   Includes 294 shares that Anat Crystal, Mr. Crystal's spouse, beneficially
      owns .

(4)   Includes options to purchase 387,111 ordinary shares currently exercisable
      at a price and during the terms indicated in the table below:

                Number of Ordinary Shares         Exercise
                  Underlying the Options           Price          Expiration
                  ----------------------           -----          ----------

                          191,000                    2.25         April 2013
                           80,000                    3.00         February 2012
                            5,000                    3.50         September 2013
                           61,111                    4.00         September 2013
                           10,000                    4.50         April 2013
                           10,000                    5.50         October 2010
                           15,000                    6.50         November 2006
                           15,000                   10.50         April 2010


Arrangements Involving the Issue of BluePhoenix' Shares or Grant of Options to
Purchase Shares

         The 1996 Share Option Plan


                                       60
<PAGE>


         In 1996, we adopted two option plans. One of these option plans has
been terminated after all options granted under it have been exercised. Pursuant
to our other 1996 option plan, as amended, we reserved 3,200,000 ordinary shares
for issuance to our and our subsidiaries' directors, officers, consultants and
employees. As of May 21, 2004, options to purchase 2,287,500 ordinary shares
were outstanding under the plan. The exercise price of the options granted under
the 1996 option plan ranges from $2.25 to $10.50.

               Our board of directors administers our 1996 option plan. Under
the 1996 option plan, as amended, options to purchase our ordinary shares may be
granted to our and our subsidiaries' directors, officers, consultants and
employees. Our board of directors is empowered, among other things, to designate
the grantees, dates of grant, the exercise price of the options and the terms of
exercise of the options. Unless determined otherwise by the board, the options
generally vest over a three-year period. Unvested options are forfeited upon
termination of employment, unless otherwise agreed. Under the 1996 option plan,
the grantee is responsible for all personal tax consequences of the grant and
the exercise of the options. Each option granted under the 1996 option plan is
exercisable during a term of ten years from the date of grant of the option. The
1996 option plan will expire on August 6, 2013, except as to options outstanding
on that date.

         Options Granted to Employees of One of Our Subsidiaries

         In August 2000, in connection with the purchase of a controlling
interest in IntraComp Group Incorporated, we granted to certain employees of
IntraComp options to purchase an aggregate of 125,000 of our ordinary shares of
which 55,000 were cancelled. All of the remaining options are currently
exercisable at an exercise price of $9.625 per share. The options shall expire
in August 2010.

         Options Granted to FIMI

         In January 2001, we granted FIMI, a creditor of our affiliate,
Intercomp, a put option to sell to us promissory notes issued by Intercomp in an
aggregate principal amount of $3.5 million plus interest accrued since January
2001 at an annual rate of 5%, which could be paid, subject to FIMI's approval,
in BluePhoenix ordinary shares. For additional information regarding the terms
of this put option, see "Item 5.B. Liquidity and Capital Resources--Contractual
Commitments and Guarantees."

         Issuance of Shares in connection with Call and Put Options in respect
of Infinity's Holdings in
Intercomp

         In April 2004, a shareholder of Intercomp represented by Infinity,
granted to us a call option to purchase its entire holdings in Intercomp,
exercisable until April 1, 2006. If we do not exercise our option, Infinity will
have a put option to cause us to purchase Infinity's entire holdings in
Intercomp, exercisable from April 2006 until September 2006. If either of the
options is exercised by us or by Infinity, we shall be obliged to issue to
Infinity, as consideration for Intercomp's shares, 100,000 BluePhoenix ordinary
shares and an additional amount of shares to be calculated based on revenues
generated from the sale of licenses to use Intercomp's products.

                                       61
<PAGE>

The shares will be subject to a lock-up period until April 1, 2006. We may, at
our option, pay to Infinity the cash equivalent of such shares.

         Convertible Debentures and Warrants Purchased by Institutional
Investors

         On March 30, 2004, we completed a $5 million private placement to four
institutional investors. Under the terms of this transaction, we issued to each
investor a 32-month debenture, bearing interest at an annual rate of 2%, payable
quarterly, at our option, in cash or in BluePhoenix ordinary shares. The
debentures are convertible, at the investors' option, into BluePhoenix ordinary
shares at a conversion price of $5.70 per share. In the event that the market
price of the shares, calculated on a weighted average basis, exceeds $7.125 for
20 consecutive trading days, we have the option to force the institutional
investors to convert the outstanding amount of the debentures into BluePhoenix
shares.

         As part of the transaction, the institutional investors were also
granted warrants exercisable into BluePhoenix ordinary shares at an exercise
price of $6.50 per share. The warrants are exercisable during a period of 5
years commencing in September 2004. If such warrants are exercised in full, we
shall receive an aggregate consideration of $2.85 million.

         If the debentures issued to the institutional investors are fully
converted and the warrants are fully exercised, we would be required to issue to
the investors up to 1,708,411 ordinary shares, subject to adjustments.

         Under certain circumstances, the institutional investors may increase
their investment by an additional $3 million of debentures and receive warrants
on the same terms as the initial warrants, exercisable into such number of
BluePhoenix ordinary shares equal to 50% of the ordinary shares into which the
debentures are convertible. If these additional debentures are fully converted
and the additional warrants are exercised in full, we would be required to issue
to the investors up to an additional 1,025,047 ordinary shares.



                                       62
<PAGE>

ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

A.       Major Shareholders

         The following table presents information regarding the ownership of our
ordinary shares at May 21, 2004 by each person known to us to be the beneficial
owner of 5% or more of our ordinary shares. Except where we indicated otherwise,
we believe, based on information furnished by these owners, that the beneficial
owners of our shares listed below have sole investment and voting power with
respect to the shares.

                                                     Ordinary Shares
                                                    Beneficially Owned
                                                    ------------------
Name and Address                                 Number             Percent (1)
----------------                                 ------             -----------

Formula Systems (1985) Ltd.                     7,928,320              64.2% (2)
3 Hagalim Boulevard
Herzlia 46725, Israel

Aaron Crystal                                   1,193,700 (3)           8.8 %

Arie Kilman (4)                                   802,925               5.8%

--------------------------

(1)  Percentages in the above table are based on 13,522,139 ordinary shares
     outstanding as of May 21, 2004, and do not include 1,870,565 ordinary
     shares that two of our subsidiaries hold.

(2)  Formula owns of record 7,928,320 ordinary shares. Messrs. Dan Goldstein and
     Gad Goldstein have entered into agreements, which require them to vote
     their ordinary shares (an aggregate of 755,138 shares) as instructed by
     Formula. As a result of these voting agreements, Formula beneficially owns
     approximately 64.2% of our outstanding shares. Dan Goldstein is chairman of
     the board and chief executive officer of Formula and owns 20.0% of the
     outstanding shares of Formula. Gad Goldstein is a director and president of
     Formula and owns 3.3% of the outstanding shares of Formula. Messrs. Dan and
     Gad Goldstein are brothers. Based on the foregoing, Dan Goldstein and Gad
     Goldstein each may be deemed to share with Formula the power to vote and
     dispose of our ordinary shares beneficially owned by Formula. Each of Dan
     Goldstein and Gad Goldstein disclaims beneficial ownership of the ordinary
     shares beneficially owned by Formula.

(3)  Includes 294 shares that Anat Crystal, Mr. Crystal's spouse, beneficially
     owns.

(4)  Includes currently exercisable options to purchase 211,111 ordinary shares.

         All of our ordinary shares have equal voting rights. Under our two
buy-back programs (as described in "Item 5.B. Liquidity and Capital Resources"),
two of our subsidiaries purchased 1,870,565 of our ordinary shares, as of May
21, 2004. Under applicable Israeli law, the shares held by our subsidiaries have
no voting rights and, therefore, are excluded from the number of our outstanding
shares. If our subsidiaries purchase additional shares, the percentage of our
outstanding shares controlled by Formula would increase.

         In November 2002, we purchased through a share exchange transaction 86%

                                       63

<PAGE>

of the outstanding share capital of Liraz. As part of the transaction, we issued
to Liraz's selling shareholders, including Formula, 3,478,624 of our ordinary
shares, constituting an aggregate of 26% of our outstanding share capital. Of
these shares, we issued to Formula 2,343,113 ordinary shares.

         As of April 30, 2004, there were 33 record holders of our ordinary
shares. Of these record holders, 19 holders had mailing addresses in the United
States owning an aggregate of approximately 45.4% of our outstanding ordinary
shares, excluding the shares that our subsidiaries hold.

B.       Related Party Transactions

         Management Agreement with Formula

         On January 1, 1996, we signed a letter agreement with Formula pursuant
to which Formula provides us with administrative and management support,
including business and marketing consulting services and identification of
strategic partners and investors. Pursuant to the letter agreement, we pay to
Formula in return for its services, a management fee equal to 3% of our
revenues, up to a maximum of $180,000 per year. The amount of management fee was
negotiated between us and Formula in 1996 when we initially entered into the
management agreement. We pay the management fee to Formula in installments at
the end of each quarter. For the year ended December 31, 2003, we paid to
Formula under this agreement a management fee of $180,000. In addition, we
reimburse Formula from time to time for expenses Formula incurred on our behalf.

         Registration Rights Agreements, Voting Agreements

         In 1997, we entered into a registration rights agreement with Formula,
Dan Goldstein, Gad Goldstein, Aaron Crystal and an additional shareholder,
referred to collectively as the holders. Under this registration rights
agreement, the holders have certain registration rights with respect to their
ordinary shares, beginning January 31, 1998. We have agreed that, beginning
January 31, 1998, at the request of the holders of a majority of the shares held
by the persons and entities who signed the agreement, and on no more than two
occasions, we will file a registration statement under the Securities Act for an
offering of their shares with respect to which registration is requested. In
addition, if we otherwise propose to register our ordinary shares under the
Securities Act, these holders may request that we register their shares as well,
subject to certain limitations. We shall bear all fees and expenses in
connection with the registration, except that the holders will pay all fees and
expenses of their own counsel and all underwriting discounts and commissions
relating to their shares.

         In October 2002, we entered into a registration rights agreement with
Formula, Mr. Arie Kilman and other shareholder of Liraz as part of the Share
Exchange Agreement with those shareholders. Under this agreement, we agreed
that, until October 12, 2005, at the request of the holders of at least 20% of
the shares issued to Liraz shareholders under the share exchange agreement, and
no more than once, we will, subject to certain limitations, file a registration
statement under the Securities Act for an offering of their shares with respect
to which registration is requested. In addition, if we otherwise propose to
register our ordinary shares

                                       64
<PAGE>

under the Securities Act, these holders may request that we register their
shares as well, subject to certain limitations. We shall bear all expenses in
connection with the registration, provided that all underwriting commissions
shall be paid by the holders selling shares with respect to their shares sold.

         In May 2004, our board of directors approved to include 400,000
BluePhoenix shares held by certain directors and officers in a registration
statement to be filed by us in May 2004 under the Securities Act.

         Messrs. Dan Goldstein and Gad Goldstein have entered into voting
agreements that require them to vote their ordinary shares as instructed by
Formula.

         Transactions Between Us and Our Subsidiaries

         In the fourth quarter of 2000, we increased our shareholdings in our
subsidiary, IntraComp, by investing $240,000 and reaching a 53% controlling
interest. In addition, as of May 21, 2004, we lent to IntraComp an aggregate
amount of $2.3 million. For more information about IntraComp, see "Item 4.B.
Business Overview--Investments and Acquisitions--IntraComp."

         We currently hold 40% of the outstanding share capital of MultiConn
Technologies, an affiliate of our subsidiary, M.S.I. MultiConn, and have an
option to increase our holdings in MultiConn Technologies to 60%. In May 2004,
we provided on behalf of MultiConn Technologies a guarantee in the amount of
$300,000. For more information about M.S.I. MultiConn and MultiConn
Technologies, see "Item 4.B. Business Overview--Investments and
Acquisitions--MultiConn."

         In the fourth quarter of 2003, we exercised an option to purchase from
Intercomp certain technology for an aggregate of $1.9 million. In addition, we
undertook to pay to Intercomp royalties of 25% of the revenues generated from
the purchased technology. In connection with the purchase of Intercomp's
technology, we assumed the rights and obligations of Intercomp under a
distribution agreement, pursuant to which Intercomp granted rights to a
distributor to further develop and distribute Intercomp's products. As of
December 31, 2003, we lent to Intercomp an aggregate of approximately $1.8
million, which are convertible into preferred shares of Intercomp, subject to
certain conditions. For more information about Intercomp, see "Item 4.B.
Business Overview--Investments and Acquisitions--Intercomp."

         Transactions Between Us and Our Chief Executive Officer

       Mr. Kilman, in his former position as Liraz's chairman of the board of
directors, was granted by Liraz in May 2002 a loan of approximately NIS 1.2
million (approximately $300,000). As of May 21, 2004, Mr. Kilman repaid $150,000
of the principal amount of the loan plus linkage differentials and accrued
interest. For more information relating to the loan granted to Mr. Kilman, see
"Item 6.B. Compensation."

       Indemnification of Office Holders

                                       65
<PAGE>

       In July 2003, we granted to each of our office holders an indemnification
letter, pursuant to which we undertook to indemnify each office holder in
respect of an obligation or expense imposed on the office holder in respect of
an act performed in his or her capacity as an office holder, provided, however,
that the undertaking is limited to categories of events specified in the
indemnification letter and subject to the provisions of any law, as follows:

       (i)    a financial obligation imposed on him or her in favor of another
              person by a court judgment, including a compromise judgment or an
              arbitrator's award approved by court; and

       (ii)   reasonable litigation expenses including attorneys' fees, expended
              by an office holder or charged to the office holder by a court, in
              a proceeding instituted against the office holder by the company
              or on its behalf or by another person, or in a criminal charge
              from which the office holder was acquitted, or in a criminal
              proceeding in which the office holder was convicted of an offense
              that does not require proof of criminal intent.

       The indemnification described above shall also apply to an obligation or
expense imposed on the office holder in respect of an act performed in his or
her capacity as an office holder or an employee of one of our subsidiaries. Our
undertaking for indemnification is limited to up to 25% of our shareholders'
equity as it appears in our latest financial statements known at the date of
indemnification.

       Our undertaking for indemnification shall not apply to a liability
incurred as a result of any of the following:

       (i)        a breach by the office holder of his or her duty of loyalty,
                  unless the office holder acted in good faith and had a
                  reasonable basis to believe that the act would not prejudice
                  the company;

       (ii)       a breach by the office holder of his or her duty of care if
                  the breach was done intentionally or recklessly;

       (iii)      any act or omission done with the intent to derive an illegal
                  personal benefit; or

       (iv)       any fine levied against the office holder.

       We shall not be required to indemnify an office holder, if the office
holder, or anyone on its behalf, already received payment in respect of a
liability subject to indemnification, under an effective insurance coverage or
an effective indemnification arrangement with a third party, provided, however,
that if such payment made to the office holder does not cover the entire
liability subject to the indemnification, we shall indemnify the office holder
in respect of the difference between the amount paid to the office holder and
the liability subject to the indemnification.

                                       66
<PAGE>

       Office Holders Insurance

         We have obtained an insurance policy covering our directors' and
officers' liability. Our subsidiaries participate in the premium payments of the
insurance, on a proportional basis. The total premium we paid during 2003 was
approximately $127,000.

C.       Interests of Expert and Counsel

Not applicable.


ITEM 8. FINANCIAL INFORMATION

A.       Consolidated Statements and Other Financial Information

Financial Statements

         The financial statements required by this item are found at the end of
this annual report, beginning on page F-1.

Legal Proceedings

         We are not involved in any proceedings in which any of our directors,
members of our senior management or any of our affiliates is either a party
adverse to us or to our subsidiaries or has a material interest adverse to us or
to our subsidiaries. We are also not involved in any material legal proceedings,
except as described below.

         In July 2003, a former Liraz shareholder filed an application with the
Tel Aviv, Jaffa District Court to approve a claim filed by him against us, as a
class action. The claim relates to the acquisition of Liraz shares, which we
completed in March 2003. The shareholder alleges that the share price we paid to
Liraz's shareholders in the tender offer and in a subsequent mandatory purchase
was lower than the fair price of Liraz shares. The maximum amount of the claim
is approximately $5.8 million in the aggregate. Under Israeli law, the court's
approval is required for the plaintiff to represent all of the shareholders of
Liraz who sold their shareholdings to us pursuant to the tender offer and the
mandatory acquisition. The plaintiff has applied for such approval in the
lawsuit. A preliminary hearing is scheduled for October 2004. We believe that
the allegations against us in this proceed are without merit and we intend to
vigorously defend the claim and contest the allegations made therein.

         Sogeti Nederland B.V., referred to as Sogeti, a Dutch company, has
notified us of the termination of a migration project which was performed
jointly by Sogeti and one of our wholly owned subsidiaries, ASE B.V., for a
Dutch customer, NV Interpolis BTL, due to an alleged breach on our part. The
project was performed by Sogeti as prime contractor and by ASE as subcontractor.
BluePhoenix acted as subcontractor of ASE. In March 2004, Sogeti was granted by
the district court in Amsterdam leave to put a lien over a bank account of ASE
pursuant to an ex parte application. In the application, Sogeti claims that it
has to make, or has made, a refund

                                       67
<PAGE>

to Interpolis of 2.2 million euro and that it may suffer losses of a least
150,000 euro. For purposes of the lien application, Sogeti estimates the
aggregate amount of the claim at 3 million euro. Sogeti has to file a claim
against ASE B.V. by the end of June 2004. We believe that the alleged claim of
Sogeti as described in the application for the lien has no grounds and is
without merit. If a claim is filed against us we intend to vigorously defend it.

Dividend policy

         We have never declared or paid dividends to our shareholders and we do
not intend to pay dividends in the future. We anticipate that we will retain all
of our future earnings for use in the expansion and operation of our business.

B.       Significant Changes

         Except as otherwise disclosed in this annual report, there has been no
material change in our financial position since December 31, 2003.




                                       68

<PAGE>

ITEM 9. THE OFFER AND LISTING

A.       Offer and Listing Details

         The following table shows the high and low closing price for our
ordinary shares on the NASDAQ National Market for the periods indicated.

Calendar Period                                  Closing Price Per Share
---------------                                  -----------------------
                                                High               Low
                                                ----               ---
                                                        (in $)
1999                                           18.69               6.56
2000                                           19.50               5.63
2001                                            8.69               2.05

2002                                            4.15               2.00
  First Quarter                                 4.15               3.50
  Second Quarter                                4.00               2.80
  Third Quarter                                 3.00               2.24
   Fourth Quarter                               2.38               2.00

2003                                            7.04               2.10
  First Quarter                                 2.41               2.10
  Second Quarter                                3.25               2.18
  Third Quarter                                 4.00               3.05
  Fourth Quarter                                7.04               3.75
    November                                    5.50               4.25
    December                                    7.04               5.20

2004
  First Quarter                                 7.49               4.63
    January                                     7.49               5.64
    February                                    7.08               5.51
    March                                       5.46               4.63
    April                                       5.46               5.03
    May (through May 21)                        5.39               4.98

         The following table shows the high and low closing price for our
ordinary shares on the TASE for the periods indicated.

Calendar Period                                 Closing Price Per Share
---------------                                 -----------------------
                                                High               Low
                                                ----               ---
                                                       (in NIS)
2001(from January 21)                          35.70              10.50

2002                                           20.10                8.01
  First Quarter                                20.10              14.99
  Second Quarter                               19.00              19.00
  Third Quarter                                19.00                8.01
  Fourth Quarter                               12.00              12.00


                                       69
<PAGE>

Calendar Period                                 Closing Price Per Share
---------------                                 -----------------------
                                                High               Low
                                                ----               ---
                                                       (in NIS)

2003                                           29.20              11.49
  First Quarter                                12.00              11.49
  Second Quarter                               13.00              11.49
  Third Quarter                                16.50              13.00
  Fourth Quarter                               29.20              16.50
    November                                   24.41              19.04
    December                                   29.20              22.44
2004
  First Quarter                                33.80              22.50
    January                                    33.50              25.99
    February                                   33.80              27.04
    March                                      27.76              22.50
    April                                      26.59              23.00
    May (through May 23)                       25.49              25.00

B.       Plan of Distribution

Not applicable.

C.       Markets

         Our ordinary shares have been traded in the United States on the NASDAQ
National Market since our initial public offering on January 30, 1997 and were
not publicly traded prior to this date. The symbol on the NASDAQ National Market
for our ordinary shares is BPHX. On January 21, 2001 we listed our ordinary
shares for trading on the Tel Aviv Stock Exchange, referred to as the TASE.

D.       Selling Shareholders

Not applicable.

E.       Dilution

Not applicable.

F.       Expenses of the Issue

Not applicable.


ITEM 10. ADDITIONAL INFORMATION

A.       Share Capital

Not applicable.


                                       70
<PAGE>

B.       Memorandum and Articles of Association

         We are registered with the Israeli Companies Register under the number
52-004306-8. Our objects are specified in our memorandum of association. These
objects include:

     o    operating within the field of informational and computer systems;
     o    providing management, consulting and sale services for computers,
          computer equipment, software for computers and for information
          systems;
     o    the business of systems analysis, systems programming and computer
          programming; and
     o    establishing facilities for instruction and training for computers and
          digital systems.

Description of Our Share Capital

         Our company share capital consists of ordinary shares. Our articles of
association do not restrict in any way the ownership of our ordinary shares by
non-residents, except that these restrictions may exist with respect to citizens
of countries that are in a state of war with Israel.

Transfer of Shares

         Fully paid ordinary shares are issued in registered form and may be
freely transferred under our articles of association unless the transfer is
restricted or prohibited by another instrument.

Modification of Class Rights

         Under our articles of association, the rights attached to any class
unless otherwise provided by the terms of the class, including voting, rights to
dividends and the like, may be varied by adoption of the necessary amendment to
the articles of association, provided that the affected shareholders approve the
change by a class meeting in which a simple majority of the voting power of the
class represented at the meeting and voting on the matter approves the change.

Dividend Rights and Liquidation Rights

         We may declare a dividend to be paid to the holders of ordinary shares
according to their rights and interests in our profits. We may pay the dividend
as an allotment of shares or a distribution of assets. If we do decide to issue
dividends by an allotment of shares at a price lower than the nominal value of
those shares, we must convert a portion of our profits or any other source of
equity to share capital in an amount equal to the difference between the nominal
value of the shares and the price paid in the dividend. If dividends remain
unclaimed for seven years from the date we declared the dividend, they lapse and
revert back to us. In case of liquidation, after satisfying liabilities to
creditors, our assets will be distributed to the holders of ordinary shares in
proportion to their holdings. This right may be affected by the grant of a


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preferential dividend or distribution rights to the holders of a class of shares
with preferential rights that may be authorized in the future.

Redemption provisions

         In accordance with our articles of association, we may issue redeemable
shares and accordingly redeem those shares. Our board may attach to redeemable
shares the attributes of shares, including voting rights and the right to
participate in profits.

Voting, Shareholder Meetings and Resolutions

         Holders of our ordinary shares have one vote for each ordinary share
held on all matters submitted to the vote of shareholders. These voting rights
may be affected by the grant of any special voting rights to the holders of a
class of shares with preferential rights that may be authorized in the future.

         We must hold an annual general meeting once a year with a maximum
period of fifteen months between the meetings. All other meetings of
shareholders other than annual general meetings are considered special general
meetings. Our board of directors may, whenever it decides it is appropriate, and
shall, within 21 days after receiving a written demand from one director or from
one or more shareholders representing at least 10% of the outstanding share
capital and 1% of the voting power, call a special general meeting. The quorum
required for a general meeting of shareholders consists of two or more holders
present in person or by proxy who hold or represent at least 35% of the voting
power. A meeting adjourned for a lack of a quorum generally is adjourned to the
same day in the following week at the same time and place or to another later
time if such time is specified in the original notice convening the general
meeting or if we give notice to the shareholders of another time at least 72
hours before the date fixed for the adjourned meeting. At the reconvened
meeting, if a quorum is not present within half an hour from the time appointed
for holding the meeting, the required quorum will consist of two shareholders
present in person or by proxy.

         Under the Companies Law, unless otherwise provided in the articles of
association or applicable law, all resolutions of the shareholders require a
simple majority, except in certain circumstances provided for under the
Companies Law, which require a majority of at least 75% of the shares present at
the meeting. In accordance with the Companies Law, all shareholders meetings
require prior notice of at least 21 days.

         Under the Companies Law, a shareholder has a duty to act in good faith
towards the company in which he holds shares and towards other shareholders and
to refrain from abusing his power in the company including voting in the general
meeting of shareholders on:

     o    any amendment to the articles of association;
     o    an increase of the company's authorized share capital;
     o    a merger; or
     o    approval of some of the acts and transactions that require shareholder
          approval.

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         A shareholder has the general duty to refrain from depriving rights of
other shareholders. Any controlling shareholder, any shareholder who knows that
it possesses the power to determine the outcome of a shareholder vote and any
shareholder that, under the provisions of the articles of association, has the
power to appoint an office holder in the company, is under a duty to act in
fairness towards the company. The Companies Law does not describe the substance
of this duty.

Election of Directors

         Our ordinary shares do not have cumulative voting rights in the
election of directors. As a result, the holders of ordinary shares that
represent more than 50% of the voting power represented at a shareholders
meeting have the power to elect all of our directors, other than the outside
directors which are appointed by a special majority of shareholders. For a
summary of those provisions in our articles of association with respect to the
directors, see "Item 6. Directors, Senior Management and Employees."

Anti-Takeover Provisions; Mergers and Acquisitions under Israeli Law

         Mergers

         The Companies Law includes provisions that allow a merger transaction
and requires that each company that is party to a merger approve the transaction
by its board of directors and a vote of the majority of its shares voting on the
proposed merger at a shareholders' meeting called on at least 21 days' prior
notice. In determining whether a majority has approved the merger, shares held
by the other party to the merger or any person holding at least 25% of the other
party to the merger are excluded from the vote. The Companies Law does not
require court approval of a merger other than in specified situations. Upon the
request of a creditor of either party to the proposed merger, the court may
delay or prevent the merger if it concludes that there exists a reasonable
concern that as a result of the merger, the surviving company will be unable to
satisfy the obligations of any of the parties to the merger. In addition, a
merger may not be completed unless at least 70 days have passed from the time
that a proposal for approval of the merger has been filed with the Israeli
registrar of companies.

         Tender Offers

         The Companies Law also provides that an acquisition of shares of a
public company on the open market must be made by means of a tender offer if as
a result of the acquisition the purchaser would become a 25% shareholder of the
company. The rule does not apply if there is already another 25% shareholder of
the company. Similarly, the Companies Law provides that an acquisition of shares
in a public company must be made by means of a tender offer if, as a result of
the acquisition, the purchaser would become a 45% shareholder, unless there is a
50% shareholder of the company. These rules do not apply if the acquisition is
made by way of a merger as opposed to a tender offer. Regulations adopted under
the Companies Law provide that these tender offer requirements do not apply to
companies whose shares are listed for trading outside of Israel if, according to
the law in the country in which the shares are traded, including

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the rules and regulations of the stock exchange on which the shares are traded,
there is either a limitation on acquisition of any level of control of the
company, or the acquisition of any level of control requires the purchaser to do
so by means of a tender offer to the public. The Companies Law also provides
that if following any acquisition of shares, the acquirer holds 90% or more of
the company's shares or of a class of shares, the acquisition must be made by
means of a tender offer for all the target company's shares or all the shares of
the class, as applicable. An acquirer who wishes to eliminate all minority
shareholders must do so by way of a tender offer and acquire 95% of all shares
not held by or for the benefit of the acquirer before the acquisition. If,
however, the tender offer to acquire 95% is not successful, the acquirer may not
acquire shares tendered if by doing so the acquirer would own more than 90% of
the shares of the target company.

C.       Material Contracts

         We consider the agreements related to the $5 million private placement
of convertible debentures and warrants completed in March 2004, the acquisition
of Liraz's shares and our investments in Mainsoft Corporation, IntraComp Group
Inc. and Intercomp Ltd. as material contracts. For a summary of the terms of
these investments, see "Item 4.B. Business Overview--Investments and
Acquisitions" and "Item 5.B. Liquidity and Capital Resources." In addition, the
following agreement with Microsoft is material to our business.

         Licensing Agreement with Microsoft

         In August 1998, we entered into a Windows source code license agreement
with Microsoft that terminated and superseded our prior arrangement with
Microsoft. In May 2002, the parties entered into an amendment to the license
agreement that expanded our access to certain Microsoft development
technologies.

         Under the terms of the agreement, as amended, we continue to have
access to specified software code and documentation for specified versions of
Windows, Windows NT, and Windows XP, collectively referred to as the licensed
software. The agreement grants us the right to distribute the licensed software
as a component of our Visual MainWin(R) development kit and runtime products.
The agreement provides for the payment of royalties to Microsoft that are based
upon the licensing of our Visual MainWin(R) products, which include the licensed
software. The agreement has a perpetual term although it may be terminated
earlier under certain circumstances, including in the event of change of control
of either of the parties.

         The agreement provides that in the event that we cease the active
distribution or licensing of our Visual MainWin(R) products for more than one
year, we will be deemed to have granted to Microsoft a worldwide, exclusive,
perpetual, irrevocable, royalty-free license to our Visual MainWin(R) products.

         The agreement provides for a procedure under which we may be granted by
Microsoft a waiver of payment of certain royalties to Microsoft relating to
specific customers. Upon recording revenue from a customer, we accrue the
royalties due to Microsoft in product cost of revenues and often apply for a
waiver. We recognize a reduction in product cost of revenues when a waiver is
approved by Microsoft.

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         In December 2003, we entered into an independent contractor agreement
with Microsoft. In accordance with this agreement, Microsoft agreed to apply the
value of the services we performed under the independent contractor agreement to
accrued royalties of up to $1,605,131. During the year ended December 31, 2003,
we accrued royalties due to Microsoft of $2,782,000, and recognized credits
(reductions to expense) related to waivers and to services performed of
$2,466,000 and $999,000, respectively.

         Our ability to develop, sell and market our Visual MainWin(R) products
that use the licensed software is dependent upon the continued access to the
licensed software. While we believe that our relationship with Microsoft will
continue on terms acceptable to us, a change in or termination of the agreement
could prevent us from developing and selling certain products and materially
adversely affect our business, results of operations and financial condition.

D.       Exchange Controls

         Under current Israeli regulations, we may pay dividends or other
distributions in respect of our ordinary shares either in non-Israeli or Israeli
currencies. If we make these payments in Israeli currency, they will be freely
transferred in non-Israeli currencies at the rate of exchange prevailing at the
time of conversion. Because exchange rates between the NIS and the dollar
fluctuate continuously, a U.S. shareholder will be subject to the risk of
currency fluctuations between the date when we declare NIS-denominated dividends
and the date when we pay them in NIS. See "Item 3.D. Risk Factors."

         Non-residents of Israel may freely hold and trade our securities
pursuant to the general permit issued under the Israeli Currency Control Law,
1978. Neither our memorandum of association nor the laws of the State of Israel
restrict in any way the ownership of our ordinary shares by non-residents,
except that these restrictions may exist with respect to citizens of countries
which are in a state of war with Israel.

E.       Taxation

Israeli Taxation

         The following is general information regarding Israeli tax laws to
which U.S. and other non-Israeli shareholders may be subject. It does not cover
all possible tax considerations and therefore you should not rely on this
information as legal or professional tax advice. You should consult your own tax
advisor as to the particular tax consequences of an investment in our ordinary
shares including the effects of applicable Israeli or foreign or other tax laws
and possible changes in the tax laws.

         To the extent that the discussion is based on legislation yet to be
judicially or administratively interpreted, we cannot assure you that the views
we express herein will accord with any such interpretation in the future.

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         Under current Israeli law, individual or corporate shareholders (which
are not subject to the provisions of the Inflationary Adjustments Law), selling
our ordinary shares are subject to a 15% tax rate on any capital gain accrued
after January 1, 2003 when certain condition are met. However, foreign residents
are exempt from capital gains tax on the sale of traded securities of Israeli
companies. The foregoing does not apply to companies or individuals that are
subject to Chapter II of the Income Tax (Inflationary Adjustments) Law, 1985. In
general, Chapter II of the Inflationary Adjustments Law applies to all Israeli
companies and individuals, except for those companies which comply with all of
the following: (i) they do not generate any business income; (ii) they do not
apply for a deduction of financing expenses; and (iii) they are held only by
individuals. Notwithstanding the foregoing, dealers in securities in Israel are
taxed at regular tax rates applicable to business income.

         Pursuant to the convention between the Government of the United States
of America and the Government of Israel with respect to taxes on income (the
U.S.-Israel tax treaty), the sale, exchange or disposition of our ordinary
shares by a person who qualifies as a resident of the United States under the
treaty and who is entitled to claim the benefits afforded to him by the treaty,
will generally not be subject to Israeli capital gains tax. This exemption shall
not apply to a person who held, directly or indirectly, shares representing 10%
or more of the voting power in our company during any part of the 12-month
period preceding the sale, exchange or disposition, subject to certain
conditions. A sale, exchange or disposition of our shares by a U.S. resident
qualified under the treaty, who held, directly or indirectly, shares
representing 10% or more of the voting power in our company at any time during
the preceding 12-month period would be subject to Israeli tax, to the extent
applicable; however, under the treaty, this U.S. resident would be permitted to
claim a credit for these taxes against the U.S. income tax with respect to the
sale, exchange or disposition, subject to the limitations in U.S. laws
applicable to foreign tax credits in accordance with tax treaties.

         Non-residents of Israel are subject to income tax on passive income
accrued or derived from sources in Israel, like dividends, royalties and
interest, as well as non-passive income from services rendered in Israel. On
distributions of dividends other than bonus shares (stock dividends) we
generally withhold at source income tax at a rate of 25%, unless a different
rate applies under a treaty between Israel and the shareholder's country of
residence. Under the U.S.-Israel tax treaty, the maximum tax on dividends paid
to a holder of our ordinary shares who is a resident of the United States will
be 25% or 12.5% if certain conditions are met, including, inter alia that the
holder is a corporation which holds, directly or indirectly, shares representing
10% or more of the voting power in our company during any part of the 12-month
period preceding the date of payment of the dividend. However, under the Law for
the Encouragement of Capital Investments, 1959 (the Investments Law), dividends
generated by an approved enterprise are taxed at the rate of 15%.

United States Federal Income Tax Considerations

         Subject to the limitations described herein, this discussion summarizes
the material U.S. federal income tax consequences of the purchase, ownership and
disposition of our ordinary shares to a U.S. holder. A U.S. holder is a holder
of our ordinary shares who is:

     o    an individual citizen or resident of the U.S.;

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     o    a corporation (or another entity taxable as a corporation for U.S.
          federal income tax purposes) created or organized under the laws of
          the United States or any political subdivision thereof;
     o    an estate, the income of which is subject to U.S. federal income tax
          regardless of its source; or
     o    a trust (i) if, in general, a U.S. court is able to exercise primary
          supervision over its administration and one or more U.S. persons have
          the authority to control all of its substantial decisions or (ii) that
          has in effect a valid election under applicable U.S. Treasury
          regulations to be treated as a U.S. person.

         Unless otherwise specifically indicated, this discussion does not
consider the U.S. tax consequences to a person that is not a U.S. holder and
considers only U.S. holders that will own the ordinary shares as capital assets.

         This discussion is based on current provisions of the Internal Revenue
Code of 1986, as amended, referred to as the Code, current and proposed Treasury
regulations promulgated under the Code and administrative and judicial
interpretations of the Code, all as currently in effect and all of which are
subject to change, possibly with a retroactive effect. This discussion does not
address all aspects of U.S. federal income taxation that may be relevant to any
particular U.S. holder based on the U.S. holder's individual circumstances. In
particular, this discussion does not address the U.S. federal income tax
consequences to U.S. holders who are broker-dealers or who own, directly,
indirectly or constructively, 10% or more of our outstanding voting shares, U.S.
holders holding the ordinary shares as part of a hedging, straddle or conversion
transaction, U.S. holders whose functional currency is not the U.S. dollar,
insurance companies, tax-exempt organizations, financial institutions, persons
who acquired their shares upon the exercise of employee stock options or
otherwise as compensation, and persons subject to the alternative minimum tax,
who may be subject to special rules not discussed below. Additionally, the tax
treatment of persons who are, or hold the ordinary shares through, a partnership
or other pass-through entity is not considered, nor is the possible application
of U.S. federal estate or gift taxes or any aspect of state, local or non-U.S.
tax laws.

         You are advised to consult your tax advisor with respect to the
specific U.S. federal, state, local and foreign income tax consequences to you
of purchasing, holding or disposing of our ordinary shares.

         Taxation on Distributions on the Ordinary Shares

         We have never paid dividends, and currently do not intend to pay
dividends in the future. If we make distributions in the future, the amount of
the distribution with respect to the ordinary shares will equal the amount of
cash and the fair market value of any property distributed and will also include
the amount of any Israeli taxes withheld as described above under
"Taxation--Israeli Taxation." Subject to the discussion below under "Tax
Consequences if We are a Passive Foreign Investment Company," a distribution
paid by us with respect to the ordinary shares to a U.S. holder will be treated
as dividend income to the extent that the distribution does not exceed our
current and accumulated earnings and profits, as determined for U.S. federal
income tax purposes. Dividends that are received by U.S. holders that are
individuals, estates or trusts

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will be taxed at the rate applicable to long-term capital gains (a maximum rate
of 15%), provided that such dividends meet the requirements of "qualified
dividend income." Dividends that fail to meet such requirements, and dividends
received by corporate U.S. holders, are taxed at ordinary income rates. No
dividend received by a U.S. holder will be a qualified dividend (1) if the U.S.
holder held the ordinary share with respect to which the dividend was paid for
less than 61 days during the 121-day period beginning on the date that is 60
days before the ex-dividend date with respect to such dividend, excluding for
this purpose, under the rules of Code section 246(c), any period during which
the U.S. holder has an option to sell, is under a contractual obligation to
sell, has made and not closed a short sale of, is the grantor of a
deep-in-the-money or otherwise nonqualified option to buy, or has otherwise
diminished its risk of loss by holding other positions with respect to, such
ordinary share (or substantially identical securities); or (2) to the extent
that the U.S. holder is under an obligation (pursuant to a short sale or
otherwise) to make related payments with respect to positions in property
substantially similar or related to the ordinary share with respect to which the
dividend is paid. If we were to be a "passive foreign investment company," a
"foreign personal holding company" or a "foreign investment company" (as such
terms are defined in the Code) for any year, dividends paid on our ordinary
shares in such year or in the following year would not be qualified dividends.
In addition, a non-corporate U.S. holder will be able to take a qualified
dividend into account in determining its deductible investment interest (which
is generally limited to its net investment income) only if it elects to do; in
such case the dividend will be taxed at ordinary income rates.

         The amount of any distribution which exceeds the amount treated as a
dividend will be treated first as a non-taxable return of capital, reducing the
U.S. holder's tax basis in its ordinary shares to the extent thereof, and then
as capital gain from the deemed disposition of the ordinary shares. Corporate
holders will not be allowed a deduction for dividends received in respect of the
ordinary shares.

         Dividends paid by us in NIS will be included in the income of U.S.
holders at the dollar amount of the dividend (including any Israeli taxes
withheld therefrom), based upon the spot rate of exchange in effect on the date
of the distribution. U.S. holders will have a tax basis in NIS for U.S. federal
income tax purposes equal to that dollar value. Any subsequent gain or loss in
respect of NIS arising from exchange rate fluctuations will generally be taxable
as U.S. source ordinary income or loss.

         Subject to the limitations set forth in the Code and the Treasury
regulations thereunder, U.S. holders may elect to claim as a foreign tax credit
against their U.S. federal income tax liability the Israeli income tax withheld
from dividends received in respect of the ordinary shares. The limitations on
claiming a foreign tax credit include, among others, computation rules under
which foreign tax credits allowable with respect to specific classes of income
cannot exceed the U.S. federal income taxes otherwise payable with respect to
each such class of income. In this regard, dividends paid by us will be foreign
source "passive income" for U.S. foreign tax credit purposes or, in the case of
a financial services entity, "financial services income." U.S. holders that do
not elect to claim a foreign tax credit may instead claim a deduction for the
Israeli income tax withheld if they itemize deductions. The rules relating to
foreign tax credits are complex, and you should consult your tax advisor to
determine whether and to what extent you would be entitled to this credit. A
U.S. holder will be denied a foreign tax

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credit for Israeli income tax withheld from a dividend received on the ordinary
shares (i) if the U.S. holder has not held the ordinary shares for at least 16
days of the 30-day period beginning on the date which is 15 days before the
ex-dividend date with respect to such dividend or (ii) to the extent the U.S.
holder is under an obligation to make related payments with respect to positions
in substantially similar or related property. Any days during which a U.S.
holder has substantially diminished its risk of loss on the ordinary shares are
not counted toward meeting the required 16-day holding period.

         Taxation on Disposition of the Ordinary Shares

         Subject to the discussion below under "Tax Consequences if We are a
Passive Foreign Investment Company," upon the sale, exchange or other
disposition of our ordinary shares, a U.S. holder will recognize capital gain or
loss in an amount equal to the difference between the amount realized on the
disposition and the U.S. holder's tax basis in the ordinary shares. The gain or
loss recognized on the disposition will be long-term capital gain or loss if the
U.S. holder held the ordinary shares for more than one year at the time of the
disposition. Gain or loss recognized by a U.S. holder on a sale, exchange or
other disposition of ordinary shares will be treated as U.S. source income or
loss for U.S. foreign tax credit purposes.

         A U.S. holder that uses the cash method of accounting calculates the
dollar value of the proceeds received on the sale as of the date that the sale
settles. However, a U.S. holder that uses the accrual method of accounting is
required to calculate the value of the proceeds of the sale as of the trade date
and may therefore realize foreign currency gain or loss. A U.S. holder may avoid
realizing foreign currency gain or loss by electing to use the settlement date
to determine the proceeds of sale for purposes of calculating the foreign
currency gain or loss. In addition, a U.S. holder that receives foreign currency
upon disposition of ordinary shares and converts the foreign currency into
dollars after the settlement date or trade date (whichever date the U.S. holder
is required to use to calculate the value of the proceeds of sale) will have
foreign exchange gain or loss based on any appreciation or depreciation in the
value of the foreign currency against the dollar, which will generally be U.S.
source ordinary income or loss.

         Tax Consequences If We Are a Passive Foreign Investment Company

         We will be a passive foreign investment company, or PFIC, for a taxable
year if either (1) 75% or more of our gross income in the taxable year is
passive income; or (2) 50% or more of the value, determined on the basis of a
quarterly average, of our assets in the taxable year produce, or are held for
the production of, passive income. If we own (directly or indirectly) at least
25% by value of the stock of another corporation, we will be treated for
purposes of the foregoing tests as owning our proportionate share of the other
corporation's assets and as directly earning our proportionate share of the
other corporation's income. If we are a PFIC, a U.S. holder must determine under
which of three alternative taxing regimes it wishes to be taxed:

     o    The "QEF" regime applies if the U.S. holder elects to treat us as a
          "qualified electing fund" ("QEF") for the first taxable year in which
          the U.S. holder owns our ordinary shares or in which we are a PFIC,
          whichever is later, and if we comply with certain reporting
          requirements. If the QEF regime applies, then each year that we are a
          PFIC

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          such U.S. holder will include in its gross income a proportionate
          share of the our ordinary earnings (which is taxed as ordinary income)
          and net capital gain (which is taxed as long-term capital gain),
          subject to a separate election to defer payment of taxes, which
          deferral is subject to an interest charge. These amounts would be
          included in income by an electing U.S. holder for its taxable year in
          which our taxable year ends, whether or not such amounts are actually
          distributed to the U.S. holder. A U.S. holder's basis in our ordinary
          shares for which a QEF election has been made would be increased to
          reflect the amount of any taxed but undistributed income. Generally, a
          QEF election allows an electing U.S. holder to treat any gain realized
          on the disposition of his ordinary shares as capital gain.

          Once made, the QEF election applies to all subsequent taxable years of
          the U.S. holder in which it holds our ordinary shares and for which we
          are a PFIC, and can be revoked only with the consent of the Internal
          Revenue Service. The QEF election is made by attaching a completed
          Internal Revenue Service Form 8621, including the PFIC annual
          information statement, to a timely filed United States federal income
          tax return. Even if a QEF election is not made, a U.S. person who is a
          shareholder in a PFIC must file a completed Internal Revenue Service
          Form 8621 every year.

          If a QEF election is made after the first taxable year in which a U.S.
          holder holds our ordinary shares and we are a PFIC, then special rules
          would apply.

     o    A second regime, the "mark-to-market" regime, may be elected so long
          as our ordinary shares are publicly traded. Pursuant to this regime,
          an electing U.S. holder's ordinary shares are marked-to-market each
          year and the U.S. holder recognizes as ordinary income or loss an
          amount equal to the difference as of the close of the taxable year
          between the fair market value of our ordinary shares and the U.S.
          holder's adjusted tax basis therein. Losses are allowed only to the
          extent of net mark-to-market gain previously included by the U.S.
          holder under the election for prior taxable years. An electing U.S.
          holder's adjusted basis in our ordinary shares is increased by income
          recognized under the mark-to-market election and decreased by the
          deductions allowed under the election.

          Under the mark-to-market election, gain on the sale of our ordinary
          shares is treated as ordinary income, and loss on the sale of our
          ordinary shares, to the extent the amount of loss does not exceed the
          net mark-to-market gain previously included, is treated as ordinary
          loss. The mark-to-market election applies to the tax year for which
          the election is made and all later tax years, unless the ordinary
          shares cease to be marketable or the Internal Revenue Service consents
          to the revocation of the election.

          If the mark-to-market election is made after the first taxable year in
          which a U.S. holder holds our ordinary shares and we are a PFIC, then
          special rules would apply.

     o    A U.S. holder making neither the QEF election nor the mark-to-market
          election is subject to the "excess distribution" regime. Under this
          regime, "excess distributions" are subject to special tax rules. An
          excess distribution is either (1) a distribution with respect to
          ordinary shares that is greater than 125% of the average distributions
          received by the U.S. holder from us over the shorter of either the
          preceding three years or such U.S. holder's

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          holding period for our ordinary shares, or (2) 100% of the gain from
          the disposition of our ordinary shares (including gain deemed
          recognized if the ordinary shares are used as security for a loan).

                  Excess distributions must be allocated ratably to each day
         that a U.S. holder has held our ordinary shares. A U.S. holder must
         include amounts allocated to the current taxable year and to any period
         prior to the first day of the first taxable year for which we are a
         PFIC in its gross income as ordinary income for the current taxable
         year. All amounts allocated to other years of the U.S. holder would be
         taxed at the highest tax rate for each such other year applicable to
         ordinary income. The U.S. holder also would be liable for interest on
         the deferred tax liability for each such other year calculated as if
         such liability had been due with respect to each such other year. A
         U.S. holder that is an individual is not allowed a deduction for
         interest on the deferred tax liability. The portions of distributions
         that are not characterized as "excess distributions" are subject to tax
         in the current year under the normal tax rules of the Code.

                  A U.S. person who inherits shares in a foreign corporation
         that was a PFIC in the hands of the decedent (who was not a nonresident
         alien and did not make either of the elections described above), is
         denied the otherwise available step-up in the tax basis of such shares
         to fair market value at the date of death. The U.S. person steps into
         the shoes of the decedent and will be subject to the rules described
         above.

         We believe that in 2002 we were not a PFIC and currently we expect that
 we will not be a PFIC in 2003. However, PFIC status is determined as of the end
 of the taxable year and is dependent on a number of factors, including the
 value of our assets and the amount and type of our gross income. Therefore,
 there can be no assurance that we will not become a PFIC for the current fiscal
 year ending December 31, 2003 or in a future year. We will notify U.S. holders
 in the event we conclude that we will be treated as a PFIC for any taxable year
 to enable U.S. holders to consider whether or not to elect to treat us as a QEF
 for U.S. federal income tax purposes or to "mark to market" the ordinary shares
 or to become subject to the "excess distribution" regime.

         U.S. holders are urged to consult their tax advisors regarding the
application of the PFIC rules, including eligibility for and the manner and
advisability of making, the QEF election or the mark-to-market election.

         Information Reporting and Backup Withholding

         A U.S. holder generally is subject to information reporting and may be
subject to backup withholding at rate of up to 28% with respect to dividend
payments and receipt of the proceeds from the disposition of the ordinary
shares. Backup withholding will not apply with respect to payments made to
exempt recipients, including corporations and tax-exempt organizations, or if a
U.S. holder provides a correct taxpayer identification number (or certifies that
he has applied for a taxpayer identification number), certifies that such holder
is not subject to backup withholding or otherwise establishes an exemption.
Backup withholding is not an additional tax and may be claimed as a credit
against the U.S. federal income tax liability of a U.S. holder, or
alternatively, the U.S. holder may be eligible for a refund of any excess
amounts withheld under

                                       81
<PAGE>

the backup withholding rules, in either case, provided that the required
information is furnished to the Internal Revenue Service.

         Non-U.S. holders of Ordinary Shares

         Except as provided below, a non-U.S. holder of ordinary shares (except
certain former U.S. citizens and long-term residents of the United States) will
not be subject to U.S. federal income or withholding tax on the receipt of
dividends on, and the proceeds from the disposition of, an ordinary share,
unless that item is effectively connected with the conduct by the non-U.S.
holder of a trade or business in the United States and, in the case of a
resident of a country which has an income tax treaty with the United States,
that item is attributable to a permanent establishment in the United States or,
in the case of an individual, a fixed place of business in the United States. In
addition, gain recognized by an individual non-U.S. holder will be subject to
tax in the United States if the non-U.S. holder is present in the United States
for 183 days or more in the taxable year of the sale and other conditions are
met.

         Non-U.S. holders will not be subject to information reporting or backup
withholding with respect to the payment of dividends on ordinary shares unless
the payment is made through a paying agent, or an office of a paying agent, in
the United States. Non-U.S. holders will be subject to information reporting and
backup withholding at a rate of up to 28% with respect to the payment within the
United States of dividends on the ordinary shares unless the holder provides its
taxpayer identification number, certifies to its foreign status, or otherwise
establishes an exemption.

         Non-U.S. holders will be subject to information reporting and backup
withholding at a rate of up to 28% on the receipt of the proceeds from the
disposition of the ordinary shares to, or through, the United States office of a
broker, whether domestic or foreign, unless the holder provides a taxpayer
identification number, certifies to its foreign status or otherwise establishes
an exemption. Non-U.S. holders will not be subject to information reporting or
backup withholding with respect to the receipt of proceeds from the disposition
of the ordinary shares by a foreign office of a broker; provided, however, that
if the broker is a U.S. person or a "U.S. related person," information reporting
(but not backup withholding) will apply unless the broker has documentary
evidence in its records of the non-U.S. holder's foreign status or the non-U.S.
holder certifies to its foreign status under penalties of perjury or otherwise
establishes an exemption. For this purpose, a "U.S. related person" is a broker
or other intermediary that maintains one or more enumerated U.S. relationships.
Backup withholding is not an additional tax and may be claimed as a credit
against the U.S. federal income tax liability of a non-U.S. holder, or
alternatively, the non-U.S. holder may be eligible for a refund of any excess
amounts withheld under the backup withholding rules, in either case, provided
that the required information is furnished to the Internal Revenue Service.

F.       Dividend and Paying Agents

Not applicable.

G.       Statement by Agents


                                       82
<PAGE>

Not applicable.

H.       Documents on Display

         BluePhoenix files annual and special reports and other information with
the SEC. You may inspect and copy such material at the public reference
facilities maintained by the SEC, 450 Fifth Street, N.W., Washington, D.C.
20549. You may also obtain copies of such material from the SEC at prescribed
rates by writing to the Public Reference Section of the SEC, 450 Fifth Street,
N.W., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further
information on the public reference room.

         The SEC maintains an Internet Web site at http://www.sec.gov that
contains reports and other material that are filed through the SEC's Electronic
Data Gathering, Analysis and Retrieval ("EDGAR") system. BluePhoenix began
filing through the EDGAR system beginning on November 14, 2002.

         BluePhoenix's ordinary shares are quoted on the NASDAQ National Market.
You may inspect reports and other information concerning BluePhoenix at the
offices of the National Association of Securities Dealers, Inc., 1735 K Street,
N.W., Washington, D.C. 20006.

         Information about us is also available on our Web site at
http://www.bphx.com. Such information on our Web site is not part of this
annual report.

         BluePhoenix, as a foreign private issuer, is exempt from the rules
under the Exchange Act prescribing the furnishing and content of proxy
statements, and BluePhoenix's officers, directors and principal shareholders are
exempt from the reporting and "short-swing" profit recovery provisions contained
in Section 16 of the Exchange Act. In addition, BluePhoenix is not required
under the Exchange Act to file periodic reports and financial statements with
the Securities and Exchange Commission as frequently or as promptly as United
States companies whose securities are registered under the Exchange Act. A copy
of each report submitted in accordance with applicable United States law is
available for public review at our principal executive offices.

I.       Subsidiary Information

Not applicable.


ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         In light of the nature of our activities, we invest our cash and cash
equivalents, in short-term time deposits. As of December 31, 2003, we invested
substantially all of the cash we held in dollars, euro and DKK currency
accounts. In addition, we had outstanding short-term loans in dollars, euro and
NIS. Fluctuations in foreign currency exchange rates, such as euro or NIS versus
the dollar may have a negative impact on our operating results and financial
condition.

                                       83
<PAGE>

Depending upon the circumstances, we will consider entering into currency
hedging transactions to decrease the risk of financial exposure from
fluctuations in the exchange rate of the dollar versus any other applicable
foreign currencies.

         We do not engage in currency speculation. We do not hold nor have we
issued any derivatives or other financial instruments for trading purposes. In
case we use financial instruments, we include the gains and losses on these
transactions in the statement of operations in the period in which the changes
in the exchange rates occur.


ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

Not applicable.



                                       84

<PAGE>


                                   P A R T II
                                   ===========


ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

Not applicable.


ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF
PROCEEDS

Not applicable.


ITEM 15. CONTROLS AND PROCEDURES

         (a) Disclosure Controls and Procedures. We have carried out an
evaluation, as of the end of our fiscal year, under the supervision and with the
participation of our management, including our chief executive officer and chief
financial officer, of our internal control over financial reporting and the
effectiveness of the design and operation of our disclosure controls and
procedures. Based upon that evaluation, the chief executive officer and chief
financial officer concluded that our disclosure controls and procedures are
effective in assuring that all material information relating to our company is
made known to them.

         (b) Internal Controls. Since the date of the evaluation described
above, there have been no significant changes in our internal controls over
financial reporting or in other factors that have materially affected, or are
reasonably likely to materially affect, our internal control over financial
reporting.


ITEM 16. [RESERVED]


ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT

       Our board of directors has determined that Mr. Michael Chill, a member of
our audit committee, is an audit committee financial expert, as defined by
applicable SEC regulations.


ITEM 16B. CODE OF ETHICS

       BluePhoenix has adopted a code of business conduct and ethics applicable
to its executive officers, directors and all other employees. A copy of the code
is available to every BluePhoenix employee, investors and others upon request to
its general counsel. Any waiver of this code for executive officers or directors
will be disclosed through the filing of a Form 6-K.


                                       85

<PAGE>

ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Policy on Pre-Approval of Audit and Non-Audit Services of Independent Auditors

         Our audit committee is responsible for the oversight of our independent
auditor's work. The audit committee's policy is to pre-approve all audit and
non-audit services provided by Ziv Haft certified public accountants (Isr.) BDO
member firm. These services may include audit services, audit-related services,
tax services and other services, as further described below. The audit committee
sets forth the basis for its pre-approval in detail, listing the particular
services or categories of services which are pre-approved, and setting forth a
specific budget for such services. Additional services may be pre-approved by
the audit committee on an individual basis. Once services have been
pre-approved, Ziv Haft certified public accountants (Isr.) BDO member firm and
our management then report to the audit committee on a periodic basis regarding
the extent of services actually provided in accordance with the applicable
pre-approval, and regarding the fees for the services performed.

Principal Accountant Fees and Services

         BluePhoenix paid the following fees for professional services rendered
by Ziv Haft certified public accountants (Isr.) and other BDO member firm, for
the years ended December 31, 2003:

                                          2003              2002
                                          ----              ----
                                              ($ in thousands)
                                      ------------------------------
Audit Fees                                   $284              $152
Audit-Related Fees                             28                27
Tax Fees                                       52                33
All Other Fees                                  -                 -
                                         ---------         ---------
Total                                        $364              $212

         The audit fees for the years ended December 31, 2003 and 2002 were for
professional services rendered for the audits of our annual consolidated
financial statements, review of our consolidated quarterly financial statements,
statutory audits of BluePhoenix and its subsidiaries, issuance of comfort
letters, consents and assistance with review of documents filed with the SEC.

       The audit-related fees for the years ended December 31, 2003 and 2002
were for assurance and related services related to accounting consultations and
audits in connection with acquisitions and employee benefit plan audits.

       Tax fees for the years ended December 31, 2003 and 2002 were for services
related to tax compliance, including the preparation of tax returns and claims
for refund, and tax planning and tax advice, including assistance with tax
audits and appeals, tax services for employee benefit plans and assistance with
respect to requests for rulings from tax authorities.


                                       86
<PAGE>

ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

Not applicable.


ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

Not applicable.





                                       87
<PAGE>

                                   P A R T III
                                   ===========


ITEM 17. FINANCIAL STATEMENTS

         We have responded to Item 18 in lieu of this item.


ITEM 18. FINANCIAL STATEMENTS

         The financial statements required by this item are found at the end of
  this annual report, beginning on page F-1.


ITEM 19. EXHIBITS

Exhibit No.
-----------

1.1          English translation of the Memorandum of Association as amended on
             July 23, 2003

1.2          Articles of Association as amended on January 15, 2001*

4.1          Cooperation agreement dated August 10, 1999, between ForSoft Ltd.
             and the Registrant (English summary accompanied by Hebrew original)
             **

4.2          Agreement dated June 12, 2003, among the Registrant, the owners of
             all of the issued and outstanding common stock of IntraComp Group
             Incorporated ***

4.3          Agreement dated January 11, 2001 among the Registrant, the Israel
             Mezzanine Fund L.P., The Israel Mezzanine Fund, The Jordan
             (Bermuda) Investment Company Ltd.*

4.4          Amendment dated August 7, 2003 to agreement among the Registrant,
             the Israel Mezzanine Fund L.P., The Israel Mezzanine Fund and The
             Jordan (Bermuda) Investment Company Ltd. dated January 11, 2001.

4.5          Share Purchase Agreement dated March 30, 2004, among the Registrant
             and four institutional investors in connection with a $5 million
             private placement.

4.6          Registration Rights Agreement dated March 30, 2004, among the
             Registrant and four institutional investors in connection with a $5
             million private placement.

4.7          Share Exchange Agreement dated October 13, 2002 among the
             Registrant, Formula Systems (1985) and certain shareholders of
             Liraz Systems Ltd.***

                                       88
<PAGE>

Exhibit No.
-----------

4.8          The 1996 Share Option Plan--Part One, as amended on January 28,
             1997, December 5, 1999, December 18, 2000, December 26, 2000 and
             August 6, 2003

8            List of Subsidiaries

10.1         Consent of Ziv Haft certified public accountants (Isr.) BDO member
             firm

12.1         Certification of the Chief Executive Officer pursuant toss.302 of
             the Sarbanes-Oxley Act

12.2         Certification of the Chief Financial Officer pursuant toss.302 of
             the Sarbanes-Oxley Act

13.1         Certification of the Chief Executive Officer pursuant to 18 U.S.C.
             section 1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley
             Act

13.2         Certification of the Chief Financial Officer pursuant to 18 U.S.C.
             section 1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley
             Act

--------------------------------
* Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 29, 2001.
** Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 28, 2002.
*** Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 19, 2003.





                                       89
<PAGE>


                                   SIGNATURES

The registrant hereby certifies that it meets all of the requirements for filing
on Form 20-F and that it has duly caused and authorized the undersigned to sign
this annual report on its behalf.



                                                     BLUEPHOENIX SOLUTIONS LTD.
                                                           (Registrant)



                                                           By: /s/ Iris Yahal
                                                              -----------------
                                                                   Iris Yahal
                                                      Chief Financial Officer



Date: May 27, 2004






<PAGE>


 EXHIBIT INDEX

Exhibit No.
-----------

1.1          English translation of the Memorandum of Association as amended on
             July 23, 2003

1.2          Articles of Association as amended on January 15, 2001*

4.1          Cooperation agreement dated August 10, 1999, between ForSoft Ltd.
             and the Registrant (English summary accompanied by Hebrew original)
             **

4.2          Agreement dated June 12, 2003, among the Registrant, the owners of
             all of the issued and outstanding common stock of IntraComp Group
             Incorporated ***

4.3          Agreement dated January 11, 2001 among the Registrant, the Israel
             Mezzanine Fund L.P., The Israel Mezzanine Fund, The Jordan
             (Bermuda) Investment Company Ltd.*

4.4          Amendment dated August 7, 2003 to agreement among the Registrant,
             the Israel Mezzanine Fund L.P., The Israel Mezzanine Fund and The
             Jordan (Bermuda) Investment Company Ltd. dated January 11, 2001.

4.5          Share Purchase Agreement dated March 30, 2004, among the Registrant
             and four institutional investors in connection with a $5 million
             private placement.

4.6          Registration Rights Agreement dated March 30, 2004, among the
             Registrant and four institutional investors in connection with a $5
             million private placement.

4.7          Share Exchange Agreement dated October 13, 2002 among the
             Registrant, Formula Systems (1985) and certain shareholders of
             Liraz Systems Ltd.***

4.8          The 1996 Share Option Plan--Part One, as amended on January 28,
             1997, December 5, 1999, December 18, 2000, December 26, 2000 and
             August 6, 2003

8            List of Subsidiaries

10.1         Consent of Ziv Haft certified public accountants (Isr.) BDO member
             firm

12.1         Certification of the Chief Executive Officer pursuant toss.302 of
             the Sarbanes-Oxley Act

12.2         Certification of the Chief Financial Officer pursuant toss.302 of
             the Sarbanes-Oxley Act


<PAGE>

Exhibit No.
-----------

13.1         Certification of the Chief Executive Officer pursuant to 18
             U.S.C.ss.1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley
             Act

13.2         Certification of the Chief Financial Officer pursuant to 18
             U.S.C.ss.1350, as adopted pursuant to ss.906 of the Sarbanes-Oxley
             Act

--------------------------
* Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 29, 2001.
** Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 28, 2002.
*** Incorporated by reference to the Registrant annual report on Form 20-F filed
with the Securities and Exchange Commission on June 19, 2003.

<PAGE>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli corporation)
                               2003 Annual Report



<PAGE>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)

                     2003 CONSOLIDATED FINANCIAL STATEMENTS


                                TABLE OF CONTENTS
                                -----------------

                                                               Page
                                                               ----

REPORT OF INDEPENDENT AUDITORS                                  F-1
CONSOLIDATED FINANCIAL STATEMENTS:
      Balance Sheets                                            F-2
      Statements of Operations                                  F-3
      Statements of Changes in Shareholders' Equity             F-4
      Statements of Cash Flows                                  F-5
      Notes to Financial Statements                             F-7


                   The amounts are stated in U.S. dollars ($).


                             ----------------------
                                  -------------
                                     ------

<PAGE>

                          Independent Auditors' Report
                             To the Shareholders of
                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)

We have audited the accompanying consolidated balance sheets of BluePhoenix
Solutions Ltd. (formerly: Crystal Systems Solutions Ltd.) (the "Company") and
its subsidiaries as of December 31, 2003 and 2002 and the related consolidated
statements of operations, changes in shareholders' equity and cash flows for
each of the three years in the period ended December 31, 2003. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of the
Company and its subsidiaries as of December 31, 2003 and 2002, and the related
consolidated results of its operations and cash flows for each of the three
years in the period ended December 31, 2003, in conformity with accounting
principles generally accepted in the United States.

As discussed in Note 1 to the consolidated financial statements, effective
January 1, 2002, the Company adopted Statement of Financial Accounting Standards
No. 142, "Goodwill and Other Intangible Assets."

As discussed more fully in Note 11, there were public reports in early 2004 that
Microsoft source code was leaked to the Internet with source traces coming from
the Company's subsidiary. While the Company's subsidiary believes its
relationship with Microsoft will continue on terms acceptable to the Company's
subsidiary, a change in the relationship could materially adversely affect the
Company's subsidiary business, result of operations, and financial condition.

Tel-Aviv, Israel
May 27, 2004
                                                 /s/ Ziv Haft
                                                 ------------

                                                   Ziv Haft
                                            Certified Public Accountants (Isr.)
                                                 BDO Member Firm



                                      F-1
<PAGE>

<TABLE>
<CAPTION>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                           CONSOLIDATED BALANCE SHEETS

                                                                         December 31,
                                                                    ----------------------
                                                                      2003          2002
                                                                    --------      --------
                                                                       (in thousands)
                                                                    -----------------------
<S>                                                                 <C>           <C>
ASSETS
CURRENT ASSETS (Note 13):
    Cash and cash equivalents                                       $ 11,105      $ 15,306
    Marketable securities                                                406           640
    Trade accounts receivable (Note 15A1)                             12,617        10,811
    Other current assets (Note 15A2)                                   1,899         2,924
                                                                    --------      --------
              Total current assets                                    26,027        29,681
                                                                    --------      --------

INVESTMENTS IN AFFILIATES AND OTHER COMPANIES (Note 3)                 3,794         3,475
                                                                    --------      --------

FIXED ASSETS (Note 4, 15A3):
    Cost                                                               8,920        11,173
    Less - accumulated depreciation                                    6,121         7,601
                                                                    --------      --------

                                                                       2,799         3,572
                                                                    --------      --------

GOODWILL (Note 5)                                                     40,265        44,695
                                                                    --------      --------

CAPITALIZED SOFTWARE DEVELOPMENT COSTS AND
    OTHER (Note 6)                                                     7,935         6,058
                                                                    --------      --------

Total assets                                                        $ 80,820      $ 87,481
                                                                    ========      ========

LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES (Note 13):
    Short-term bank credit (Note 7)                                 $  8,342      $  7,473
    Accounts payable and accruals:
       Trade                                                           3,425         3,738
       Deferred revenue                                                3,034         3,094
       Other (Note 15A4)                                              10,980        13,884
       Restructuring accrual                                            --             182
                                                                    --------      --------

              Total current liabilities                               25,781        28,371
                                                                    --------      --------

LONG-TERM LIABILITIES:
    Accrued severance pay, net (Note 8)                                  915           931
    Provision for losses in formerly-consolidated
    subsidiary (Note 9)                                                1,971         2,512
    Loans from banks (Note 10)                                         2,065         2,652
                                                                    --------      --------

              Total long-term liabilities                              4,951         6,095
                                                                    --------      --------

MINORITY INTEREST                                                      4,690         6,294
                                                                    --------      --------

COMMITMENTS AND CONTIGENCIES (Note 11)
SHAREHOLDERS' EQUITY (Note 12):
Share capital - ordinary shares of NIS 0.01 par value
(authorized - December 31, 2003 and 2002 - 30,000,000
shares; issued: December 31, 2003 - 15,354,841 shares;
   December 31, 2002 - 15,319,574 shares)                                 30            30
   Capital surplus                                                    54,412        54,329
   Accumulated other comprehensive income (loss)                      (1,476)        1,781
   Retained earnings                                                   7,140         5,289
                                                                    --------      --------

                                                                      60,106        61,429
                                                                    --------      --------
   Cost of 1,870,565 Company shares held by subsidiaries             (14,708)      (14,708)
                                                                    --------      --------

              Total shareholders' equity                              45,398        46,721
                                                                    --------      --------

Total liabilities and shareholders' equity                          $ 80,820      $ 87,481
                                                                    ========      ========
</TABLE>

The accompanying notes are an integral part of the consolidated financial
statements.


                                      F-2
<PAGE>

<TABLE>
<CAPTION>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                      CONSOLIDATED STATEMENTS OF OPERATIONS

                                                                               Year ended December 31,
                                                                      --------------------------------------------
                                                                        2003              2002              2001
                                                                        ----              ----              ----
                                                                        (in thousands, except per share amounts)
                                                                      --------------------------------------------

<S>                                                                  <C>              <C>               <C>
Revenues (Note 15B1)                                                  $ 54,340          $ 36,668          $ 38,438
Cost of revenues                                                        24,115            15,220            17,722
                                                                      --------          --------          --------
     Gross profit                                                       30,225            21,448            20,716

Software development costs, net                                          8,138             7,387             8,868
Selling, general and administrative expenses                            20,140            13,245            19,794
Goodwill impairment, restructuring costs and non-recurring
   expenses (Note 15B2)                                                   --                 472             4,467
                                                                      --------          --------          --------
     Operating income (loss)                                             1,947               344           (12,413)

Financial income (expenses), net (Note 15B4)                               165              (195)              (62)
Gain on realization of shareholdings (Note 15B5)                           376              --                 693
Other income (expenses), net (Note 15B6)                                   567            (1,581)           (2,649)
                                                                      --------          --------          --------

     Income (loss) before taxes on income                                3,055            (1,432)          (14,431)

Income tax expense (Note 14)                                               152               160               115
                                                                      --------          --------          --------

                                                                         2,903            (1,592)          (14,546)
Equity in losses of affiliated companies, net                             (898)           (1,336)           (1,304)
Minority interest                                                         (154)             (702)              863
                                                                      --------          --------          --------

     Net income (loss)                                                $  1,851          $ (3,630)         $(14,987)
                                                                      ========          ========          ========

Earnings (loss) per share (Note 15C):

         Basic                                                        $   0.14          $  (0.35)         $  (1.52)
                                                                      ========          ========          ========

         Diluted                                                      $   0.14          $  (0.35)         $  (1.52)
                                                                      ========          ========          ========

Weighted average number of shares outstanding (Note 15C):

         Basic                                                          13,451            10,517             9,872
                                                                      ========          ========          ========

         Diluted                                                        13,644            10,517             9,872
                                                                      ========          ========          ========
</TABLE>


The accompanying notes are an integral part of the consolidated financial
statements.


                                      F-3

<PAGE>

<TABLE>
<CAPTION>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (AN ISRAELI CORPORATION)

           CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

                                                       Share Capital
                                                       -------------
                                                                                       Accumulated                    Loans
                                                                                          Other                       Against
                                           Number of                   Capital        Comprehensive   Retained       Exercise
                                            Shares        Amount       Surplus           Income       Earnings       of Options
                                            ------        ------       -------           ------       --------       ----------
                                                                                    (in thousands, except shares)
                                         --------------------------------------------------------------------------------------

<S>                                      <C>             <C>           <C>            <C>           <C>                <C>
Balance at January 1, 2001                 10,009,100    $        23   $    40,632          --      $    23,906           --
Changes during 2001:
    Net loss                                     --             --            --            --          (14,987)          --
    Exercise of employee share options        181,850           --             499          --             --             (346)
    Purchase of treasury stock               (206,100)          --            --            --             --             --
Balance at December 31, 2001                9,984,850             23        41,131          --            8,919           (346)
Changes during 2002:
    Components of comprehensive income:
       Net loss                                  --             --            --            --           (3,630)          --
       Currency translation adjustments          --             --            --           1,781           --             --
         Total comprehensive loss              (1,849)
    Repayment of loans granted against
      exercise of options                        --             --            --            --             --              346
    Exercise of employee share options         90,000           --             321          --             --             --
    Purchase of treasury stock               (104,465)          --            --            --             --             --
    Issuance of shares (Note 2E)            3,478,624              7        12,877          --             --             --
Balance at December 31, 2002               13,449,009             30        54,329         1,781          5,289           --
Changes during 2003:
    Components of comprehensive income:
       Net income                                --             --            --            --            1,851           --
       Currency translation adjustments          --             --            --          (3,257)          --             --
         Total comprehensive loss              (1,406)
    Exercise of employee share options         35,267           --              83          --             --             --
Balance at December 31, 2003               13,484,276    $        30   $    54,412   $    (1,476)   $     7,140       $   --
</TABLE>


                                                  Cost of
                                                  Company
                                                Shares Held
                                                     by
                                                Subsidiaries      Total
                                                ------------      -----

                                               (in thousands, except shares)

Balance at January 1, 2001                      $   (13,152)   $    51,409
Changes during 2001:
    Net loss                                           --          (14,987)
    Exercise of employee share options                 --              153
    Purchase of treasury stock                       (1,318)        (1,318)
Balance at December 31, 2001                        (14,470)        35,257
Changes during 2002:
    Components of comprehensive income:
       Net loss                                        --           (3,630)
       Currency translation adjustments                --            1,781
         Total comprehensive loss
    Repayment of loans granted against
      exercise of options                              --              346
    Exercise of employee share options                 --              321
    Purchase of treasury stock                         (238)          (238)
    Issuance of shares (Note 2E)                       --           12,884
Balance at December 31, 2002                        (14,708)        46,721
Changes during 2003:
    Components of comprehensive income:
       Net income                                      --            1,851
       Currency translation adjustments                --           (3,257)
         Total comprehensive loss
    Exercise of employee share options                 --               83
Balance at December 31, 2003                    $   (14,708)   $    45,398


The accompanying notes are an integral part of the consolidated financial
statements.


                                      F-4

<PAGE>

<TABLE>
<CAPTION>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (AN ISRAELI CORPORATION)

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                                                                                Year ended December 31,
                                                                        -----------------------------------------
                                                                          2003            2002            2001
                                                                          ----            ----            ----
                                                                                     (in thousands)
                                                                        -----------------------------------------

CASH FLOWS FROM OPERATING ACTIVITIES:
<S>                                                                     <C>             <C>             <C>
   Net income (loss)                                                    $  1,851        $ (3,630)       $(14,987)
   Adjustments to reconcile net income (loss) to net cash
      provided by operating activities:
   Minority interest in earnings (losses) of consolidated subsidiaries       154             702            (863)
   Equity in losses of affiliated companies, net                             898           1,481           1,080
   Depreciation and amortization                                           3,910           2,774           6,029
   Increase (decrease) in accrued severance pay, net                          96            (214)           (116)
   Loss from sale of fixed assets                                             31              37             149
   Gain on realization of shareholdings and expiration of options           (451)            (84)           (693)
   Write-down of loans to an investee                                        350            --             2,500
   Write-down of shareholdings in an investee                                100           1,800            --
   Change in value of long term-loans and liabilities                        (92)            (92)             (4)
   Decrease of provision for losses in formerly consolidated
     subsidiary                                                             (541)           --              --
   Deferred taxes                                                            513              50            (340)
   Changes in operating assets and liabilities:
      Decrease in marketable securities                                      234              60           4,500
      Decrease (increase) in trade receivables                            (2,022)          3,965           8,313
      Decrease  in other current assets                                      647           1,205           1,409
      Increase (decrease) in trade payables                                 (193)         (3,422)          1,341
      Decrease in other accounts payable                                  (3,027)         (1,830)         (1,203)
                                                                        --------        --------        --------
         Net cash provided by operating activities                         2,458           2,802           7,115
                                                                        --------        --------        --------

CASH FLOWS FROM INVESTING ACTIVITIES:
   Purchase of fixed assets                                                 (867)           (823)           (878)
   Proceeds from sale of fixed assets                                        157             278             231
   Investment in and loans to affiliated and other companies              (1,140)         (2,999)         (4,714)
   Repayment of loans to affiliated and other companies                     --              --               933
   Proceeds from sale of investments                                         376            --             1,960
   Capitalization of software development and other costs                 (3,159)         (2,442)         (3,203)
   Purchase of minority interest in subsidiaries                          (2,730)         (1,124)         (5,120)
   Investment in newly-consolidated subsidiaries (Appendix A)               --             2,605            --
   Realization of investment in previously-consolidated
      subsidiaries (Appendix B)                                             (152)           --              --
                                                                        --------        --------        --------

         Net cash used in investing activities                            (7,515)         (4,505)        (10,791)
                                                                        --------        --------        --------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Short-term bank credit, net                                               495           5,165           1,257
   Repayment of long-term loans                                             --              --               (28)
   Receipt of long-term loans                                               --             1,375             287
   Issuance in a subsidiary to minority shareholders                         313            --               613
   Purchase of Company shares by subsidiaries                               --              (238)         (1,318)
   Repayment of loans granted against exercise of options                   --               346            --
   Exercise of employee share options                                         83             321             153
                                                                        --------        --------        --------

         Net cash provided by (used in) financing activities                 891           6,969             964
                                                                        --------        --------        --------

EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON CASH                              (35)            666            --
                                                                        --------        --------        --------

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS                      (4,201)          5,932          (2,712)
CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR                            15,306           9,374          12,086
                                                                        --------        --------        --------

         CASH AND CASH EQUIVALENTS AT END OF YEAR                       $ 11,105        $ 15,306        $  9,374
                                                                        ========         =======        ========
</TABLE>

The accompanying notes are an integral part of the consolidated financial
statements.


                                      F-5
<PAGE>

<TABLE>
<CAPTION>

                           BLUEPHOENIX SOLUTIONS LTD.
                   (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (AN ISRAELI CORPORATION)

                      CONSOLIDATED STATEMENTS OF CASH FLOWS

                                                                                    Year ended December 31,
                                                                       -----------------------------------------------
                                                                         2003               2002                 2001
                                                                         ----               ----                 ----
                                                                                       (in thousands)
                                                                       -----------------------------------------------

<S>                                                                    <C>                 <C>                 <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
    Cash paid during the year for:
       Income taxes                                                    $    415            $    258            $    380
       Interest                                                        $    537            $    321            $    216

APPENDIX A - INVESTMENT IN NEWLY-CONSOLIDATED SUBSIDIARIES:

Working capital, other than cash                                           --              $ (4,551)               --
Investment in and loans to affiliated company                              --                 4,156                --
Fixed assets                                                               --                  (968)               --
Minority interest                                                          --                 2,144                --
Goodwill                                                                   --               (28,105)               --
Capitalized software development costs                                     --                  (890)               --
Non-current liabilities                                                    --                17,935                --
The Company shares issued upon acquisition                                 --                12,884                --
                                                                       --------             -------            ------

      Net cash provided by (used in) acquisition                           --              $  2,605                --
                                                                       ========             =======            =======

APPENDIX B - REALIZATION OF PREVIOUSLY-CONSOLIDATED SUBSIDIARIES:

                                                                                    Year ended December 31,
                                                                       -----------------------------------------------
                                                                         2003               2002                 2001
                                                                         ----               ----                 ----
                                                                                       (in thousands)
                                                                       -----------------------------------------------

Working capital, other than cash                                       $    226                --                  --
Investment in and loans to affiliated company                            (2,613)               --                  --
Fixed assets other                                                          145                --                  --
Other assets                                                                 49
Minority interest                                                            21                --                  --
Goodwill                                                                  2,132                --                  --
Severance pay                                                              (112)               --                  --
                                                                       --------             -------            ------

      Total                                                            $   (152)               --                  --
                                                                       ========             =======            =======

APPENDIX C - NON CASH ACTIVITIES:

                                                                                    Year ended December 31,
                                                                       -----------------------------------------------
                                                                         2003               2002                 2001
                                                                         ----               ----                 ----
                                                                                       (in thousands)
                                                                       -----------------------------------------------

Purchase of technology from Affiliate against loan                     $  1,917                --                  --
                                                                       --------             -------            ------
</TABLE>

The accompanying notes are an integral part of the financial statements.


                                      F-6

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 - Summary of Significant Accounting Policies:

A.    General:

      The significant accounting policies, applied on a consistent basis, are as
      follows:

      1. The Company:

            a)    BluePhoenix Solutions Ltd. (formerly: Crystal Systems
                  Solutions Ltd.) ("BluePhoenix") (together with its
                  subsidiaries "the Company") is an Israeli corporation, which
                  operates in one business segment - enterprise IT modernization
                  solutions. The Company develops and markets software tools and
                  provides consulting services for efficient modernization of
                  legacy systems and cross-platform migration. The Company
                  manages its business in various international markets by
                  several entities, including its wholly-owned subsidiaries
                  located in: USA, UK, Denmark, Germany, Italy, Netherlands,
                  Cyprus, Rumania and Israel. The Company also holds four
                  affiliated companies ("affiliates"). The Company and its
                  affiliates operate in one reportable operating segment. Listed
                  below are details relating to BluePhoenix's major subsidiaries
                  and affiliates:

<TABLE>
<CAPTION>

                                                                                                State of
                                                              Shareholding percentage         incorporation
                                                           -------------------------------------------------
      Name                                                     2003             2002
      ----
                                                           --------------- ----------------
                                                                         %
                                                           --------------------------------
      Subsidiaries:
<S>    <C>                                                    <C>              <C>            <C>
      BluePhoenix Solutions B.V.  ("BluePhoenix")                100 *           100 *         Netherlands
      BluePhoenix Solutions Nordic Aps                           100 *           100 *         Denmark
      Advanced Systems Europe B.V.                               100 *           100 *         Netherlands
      Liraz Systems Ltd. ("Liraz")                               100                90         Israel
      Mainsoft Corporation ("Mainsoft")                           58                58         USA
      IntraComp Group, Inc. ("IntraComp")                        100                53         USA

      * Indirectly through Liraz

      Affiliates:
      Intercomp Ltd. ("Intercomp")                                49                49         Israel
      Tesnet Software Testing Ltd. ("Tesnet")                     19                19         Israel
      MSI Multiconn Solutions International (1995) Ltd.           60                60         Israel
      Multiconn Technologies Ltd.                                 60                60         Israel
</TABLE>

            b)    In July 2003 the name of the Company changed from "Crystal
                  Systems Solutions Ltd." to "BluePhoenix Solutions Ltd.".

      2.    Principal Shareholder:

            Formula Systems (1985) Ltd. ("Formula"), owns 58.5% of the Company's
            shares as of December 31, 2003.


                                      F-7
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

A.    General (cont.):

      3.    Accounting Principles:

            The consolidated financial statements are prepared in accordance
            with accounting principles generally accepted ("GAAP") in the United
            States.

      4.    Functional Currency:

            The currency of the primary economic environment in which the
            operations of the Company and most of its subsidiaries are conducted
            is the U.S. dollar ("dollar"). Most of the Company's sales are made
            outside of Israel (see Note 15B1 for export sales by geographic
            areas) and are denominated in dollars. In addition, a substantial
            portion of the Company's costs is incurred in dollars. Thus, the
            functional and reporting currency of the Company is considered to be
            the dollar. During the first quarter of 2003 some of the
            subsidiaries changed their functional currency from Euro to U.S.
            dollar which caused a reduction in the goodwill amount approximately
            $3 million. For consolidated companies whose functional currency is
            the dollar, transactions and balances originally denominated in
            dollars are presented at their original amounts. Balances in
            non-dollar currencies are translated into dollars using historical
            and current exchange rates for non-monetary and monetary balances,
            respectively. For non-dollar transactions reflected in the
            statements of operations, the exchange rates at transaction dates
            are used. Amortization and depreciation deriving from non-monetary
            items are based on historical exchange rates. The resulting
            transaction gains or losses are included in the statements of
            operations.

            For consolidated companies whose functional currency is other than
            the dollar, transactions and balances have been translated to
            dollars under the principles prescribed in Statement of Financial
            Accounting Standards ("SFAS") No. 52 of the Financial Accounting
            Standards Board ("FASB"). Assets and liabilities have been
            translated at period-end exchange rates. Results of operations have
            been translated at appropriately weighted average exchange rates.
            Differences resulting from such translation are presented as a
            separate component of shareholder's equity under the caption
            "Accumulated Other Comprehensive Income".

      5.    Use of Estimates and Assumptions in the Preparation of the Financial
            Statements:

            The preparation of financial statements in conformity with generally
            accepted accounting principles requires management to make estimates
            and assumptions that affect the reported amounts of assets and
            liabilities, disclosure of contingent assets and liabilities at the
            dates of the financial statements and the reported amounts of
            revenues and expenses during the reporting periods.

            Actual results could differ from those estimates.


                                      F-8
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 1 (cont.):

B.    Principles of Consolidation:

      The consolidated financial statements include the accounts of BluePhoenix
      Solutions Ltd. and its subsidiaries in which it has a controlling
      interest. Acquisition of subsidiaries is accounted for under the purchase
      method. All intercompany balances and transactions have been eliminated
      upon consolidation.

C.    Cash and cash Equivalents:

      Cash equivalents are considered by the Company to be highly-liquid
      investments, including, inter alia, short-term deposits with banks, the
      maturity of which did not exceed three months at the time of deposit and
      which are not restricted.

D.    Provision for doubtful accounts:

      The provision for doubtful accounts was computed on the basis of specific
      receivables the collection of which, in the opinion of Company management,
      is in doubt.

E.    Investments:

      Investments in affiliates over which the Company exercises significant
      influence are accounted for under the equity method. As to goodwill - see
      Note 1H. Investments in other companies are accounted for under the cost
      method. Investments in marketable securities are classified as "trading",
      and unrealized gains or losses therefrom are reported in the statement of
      operations in accordance with the principles set forth in SFAS 115 of the
      FASB. Investments are periodically reviewed to determine whether an
      other-than-temporary impairment in value has occurred, in which case the
      investment is written down to its fair value.

F.    Fixed Assets:

      Fixed assets are stated at cost, net of accumulated depreciation.
      Depreciation is calculated by the straight-line method over their
      estimated useful lives. Annual rates of depreciation are as follows:

                                                                   %

    Computers and computer equipment                      20 - 33 (mainly 33)
    Office furniture and equipment                         6 - 15 (mainly 7)
    Leasehold improvements                                         10
    Motor vehicles                                                 15


                                      F-9

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

G.    Impairment of Long-Lived Assets:

      The Company's long-lived assets are reviewed for impairment in accordance
      with SFAS 144 "Accounting for the Impairment for Disposal of Long-Lived
      Assets" whenever events or changes in circumstances indicate that the
      carrying amount of an asset may not be recoverable. Recoverability of
      assets to be held and used is measured by a comparison of the carrying
      amount of an asset to the future undiscounted cash flows expected to be
      generated by the assets. If such assets are considered to be impaired, the
      impairment to be recognized is measured by the amount by which the
      carrying amount of the assets exceeds their fair value.

H.    Goodwill:

      Goodwill that arose from acquisitions prior to July 1, 2001 was amortized
      until December 31, 2001 on a straight-line basis over 10 years. Prior to
      2002, goodwill was assessed for impairment by comparing undiscounted cash
      flows to the carrying amount of the goodwill. If the carrying amount was
      not recoverable, goodwill was written down to its fair value.
      In July 2001 the FASB issued SFAS 142, "Goodwill and Other Intangible
      Assets" ("SFAS 142"). SFAS 142 requires goodwill to be tested for
      impairment on an annual basis and between annual tests in certain
      circumstances, and written down when impaired, rather than being amortized
      as previous accounting standards required. Furthermore, SFAS 142 requires
      purchased intangible assets other than goodwill to be amortized over their
      useful lives unless these lives are determined to be indefinite.

      SFAS 142 is effective for fiscal years beginning after December 15, 2001.
      The Company adopted SFAS 142 effective January 1, 2002. In accordance with
      SFAS 142, the Company ceased amortizing goodwill totaling $15.1 million as
      of the beginning of 2002. Based on the impairment tests performed, there
      was no impairment of goodwill in 2003 and 2002. There can be no assurance
      that future goodwill impairment tests will not result in a charge to
      earnings.


                                      F-10

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 1 (cont.):

H.    Goodwill (cont.):

      The following table presents the impact of SFAS 142 on net income (loss)
      and net income (loss) per share had the accounting standard been in effect
      for 2001 (in thousands, except per-share amounts):

                                                             Year ended
                                                            December 31,
                                                            ------------
                                                                2001
                                                          --------------
                                                          (in thousands)
                                                          --------------

     Net loss as reported                                     $(14,987)
     Amortization of goodwill                                    1,896

        Net loss adjusted                                     $(13,091)

     Basic net loss per share as reported                        (1.52)

     Basic net loss per share adjusted                           (1.33)

     Diluted net loss per share as reported                      (1.52)

     Diluted net loss per share adjusted                         (1.33)
                                                              =========

I.       Software Development Costs:

      Development costs of software, that is intended for sale, and were
      incurred after the establishment of technological feasibility of the
      relevant product, are capitalized. Technological feasibility is determined
      when detailed program design is completed and verified in accordance with
      the provisions of SFAS No. 86 of the FASB.

      Software development costs incurred before technological feasibility is
      established are charged to the statement of operations as incurred.

      Amortization of capitalized software development costs begins when the
      product is available for general release to customers. Annual amortization
      is computed by the straight-line method, over the remaining useful life of
      the product or based on the ratio of current gross revenues to current and
      anticipated future gross revenues, whichever is higher. Currently,
      amortization is computed by the straight-line method over a period of 3
      years. During the year ended December 31, 2003, a consolidated subsidiary
      capitalized software development costs aggregating $3.2 million (2002 -
      $2.4 million, 2001 - $3.1 million) and amortized capitalized software
      development costs aggregating $2.7 million (2002 - $1.5 million, 2001
      -$1.2 million).
      In the Company management's estimate, total capitalized costs do not
      exceed the net realizable value of the software product. In the event that
      unamortized software development costs exceed the net realizable value of
      the product, they are written down to net realizable value.


                                      F-11

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

J.    Employee share Options:

      At December 31, 2003, the Company has one stock-based employee
      compensation plan, which is described more fully in Note 12B. The Company
      accounts for such plan under the recognition and measurement principles of
      APB Opinion No. 25, "Accounting for Stock Issued to Employees", and
      related Interpretations. No stock-based employee compensation cost is
      charged to income, as all options granted under such plan had an exercise
      price equal to the market value of the underlying common stock on the date
      of grant. The following table illustrates the effect on net income and
      earnings per share if the Company had applied the fair value recognition
      provisions of SFAS 123 of the FASB, "Accounting for Stock-Based
      Compensation", to stock-based employee compensation.

<TABLE>
<CAPTION>

                                                                              Year ended December 31,
                                                               ----------------------------------------------------
                                                                  2003                  2002               2001
                                                                  ----                  ----               ----
                                                                           (in thousands, except per share
                                                                                      amounts)
                                                               ----------------------------------------------------

<S>                                                            <C>                   <C>                <C>
Net income (loss) as reported                                  $      1,851          $  (3,630)         $  (14,987)
Deduct:  Total stock-based employee compensation
         expense determined under fair value based
         method for all awards, net of related tax effects             (473)              (681)               (836)

         Pro forma net income (loss)                           $      1,378          $  (4,311)         $  (15,823)

Earnings per share:
         Basic - as reported                                   $       0.14       $      (0.35)      $       (1.52)
         Basic -pro forma                                      $       0.10       $      (0.41)      $       (1.60)

         Diluted -as reported                                  $       0.14       $      (0.35)      $       (1.52)
         Diluted -pro forma                                    $       0.10       $      (0.41)      $       (1.60)
                                                               ============       ============       =============
</TABLE>

K.    Revenue Recognition:

      Revenues derived from direct software license agreements are recognized in
      accordance with Statement of Position (SOP) 97-2 "Software Revenue
      Recognition" (as amended by SOP 98-4 and SOP 98-9), upon delivery of the
      software when collection is probable, the license fee is otherwise fixed
      or determinable and persuasive evidence of an arrangement exists.
      When a project involves significant production, modification or
      customization, of software and other fixed fee contracts, revenue is
      generally recognized according to the percentage of completion method in
      accordance with the provisions of SOP 81-1 "Accounting for Performance of
      Construction-Type Contracts". Under this method, estimated revenue is
      generally accrued based on costs incurred to date as a percentage of total
      updated estimated costs.

      The Company recognizes contract losses, if any, in the period in which
they first become evident.


                                      F-12

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

K.    Revenue Recognition (cont.):

      The Company recognizes revenues from consulting fees with respect to
      projects billed on a time and material basis, based on the number of hours
      performed. Revenues from software maintenance services are recognized
      ratably over the contract period. Unrecognized revenue is recorded as
      deferred revenue.
      Management believes that the Company's revenue recognition policies are in
      accordance with the Securities and Exchange Commission Staff Accounting
      Bulletin No. 101 and SAB 104, "Revenue Recognition in Financial
      Statements".

L.    Advertising Costs:

      The Company expenses advertising costs as incurred.

M.    Gain on Realization of Shareholdings:

      Gain on realization of shareholdings includes the results of realization
      of the Company's shareholdings in investees arising either from the sale
      of such shareholdings or from issuance of stock by the investees to third
      parties, which is recognized in accordance with the provisions of Staff
      Accounting Bulletin (SAB) No. 51 of the Securities and Exchange
      Commission. The Company charges to the statement of operations such
      results, provided that the conditions stipulated in SAB 51 for such
      recognition have been met.

N.    Deferred Income Taxes:

      The Company applies the provisions of SFAS 109 "Accounting for Income
      Taxes" of the FASB, see also Note 14E.

O.    Earnings (Loss) Per Share:

      Earnings (loss) per share ("EPS") were computed in accordance with
      provisions of SFAS No. 128 of the FASB ("SFAS 128"). SFAS 128 requires the
      presentation of both basic and diluted EPS. Basic net earnings (loss) per
      share is computed based on the weighted average number of common shares
      outstanding during each year. Diluted earnings (loss) per share is
      computed based on the weighted average number of common shares outstanding
      during each year, plus dilutive potential common shares considered
      outstanding during the year.



                                      F-13

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

P.    Financial Instruments:

      a.    Management of credit risks:

            Financial instruments which have the potential to expose the Company
            to credit risks are mainly cash and cash equivalents, marketable
            securities, bank deposit accounts and trade receivables.

            The Company holds cash and cash equivalents, marketable securities
            and deposit accounts at large banks in Israel, the United States and
            in the Netherlands, thereby substantially reducing the risk of loss.

            With respect to trade receivables, the risk is limited due to the
            nature and size of the entities which constitute the Company's
            customer base. The Company assesses the financial position of its
            customers prior to the engagement therewith, and has not encountered
            material credit difficulties there-with.

      b.    Fair value of financial instruments:

            The financial instruments of the Company consist mainly of cash and
            cash equivalents, short term investments, current receivables, long
            term loans and other investments, credit from banks, accounts
            payable and long term liabilities to banks.

            In view of their nature, the fair value of the financial instruments
            included in working capital of the Company is usually identical or
            close to their carrying value. The carrying value of equity-method
            investees approximates their fair value.

Q.    Comprehensive Income:

      Up until 2002, the Company had no comprehensive income components other
      than net income. Beginning with 2002, comprehensive income presented in
      shareholders' equity includes, in addition to net income (loss),
      translation gains and losses of non-dollar currency financial statements
      of subsidiaries (see also Note 1A4 - in respect to the change in the
      functional currency).

R.    Financial Instruments:

      The application of SFAS 133 - "Accounting for Derivatives and Hedging
      Activities" and related pronouncements and interpretations did not have
      any material impact on the Company's consolidated financial statements.


                                      F-14

<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 1 (cont.):

S.    Recently issued accounting pronouncements:

      The Financial accounting Standards Board (FASB) issued Interpretation No.
      46 (FIN 46), "Consolidation of Variable Interest Entities", in January
      2003 and amended the Interpretation in December 2003. FIN 46 requires an
      investor with a majority of the variable interests (primary beneficiary)
      in a variable interest entity (VIE) to consolidate the entity and also
      requires majority and significant variable interest investors to provide
      certain disclosures. A VIE is an entity in which the voting equity
      investors do not have a controlling financial interest or the equity
      investment at risk is insufficient to finance the entity's activities
      without receiving additional subordinated financial support from the other
      parties. Development-stage entities that have sufficient equity invested
      to finance the activities they are currently engaged in and entities that
      are businesses, as defined in the Interpretation, are not considered VIEs.
      The provisions of FIN 46 were effective immediately for all arrangements
      entered into with new VIEs created after January 31, 2003. The
      consolidation requirements apply to older entities in the first fiscal
      year or interim period ending after March 15, 2004. Certain of the
      disclosure requirements apply in all financial statements issued after
      January 31, 2003, regardless of when the variable interest entity was
      established. As of December 31, 2003, the Company does not expect the
      adoption of FIN 46 to have a material impact on its consolidated financial
      statements.

      In May 2003, the FASB issued SFAS 150, "Accounting For Certain Financial
      Instruments with Characteristics of Both Liabilities and Equity" which
      establishes standards for how an issuer of financial instruments
      classifies and measures certain financial instruments with characteristics
      of both liabilities and equity. It requires that an issuer classify a
      financial instrument that is within its scope as a liability (or an asset
      in some circumstances) if, at inception, the monetary value of the
      obligation is based solely or predominantly on a fixed monetary amount
      known at inception, variations in something other than the fair value of
      the issuer's equity shares or variations inversely related to changes in
      the fair value of the issuer's equity shares. This statement is effective
      for financial instruments entered into or modified after May 31, 2003, and
      otherwise is effective at the beginning of the first interim period
      beginning after June 15, 2003. The adoption of SFAS 150 is not expected to
      have a material impact on the Company's financial position or result of
      operations.


                                      F-15
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 2 - Certain Transactions:

A.    Mainsoft:

      Mainsoft's product enables independent software vendors (ISVs) to solve
      their cross-platform development challenges. Since 1999 the Company has
      acquired in a series of transactions 57.5% of the outstanding share
      capital of Mainsoft for aggregate consideration of approximately $17.2
      million. This holding includes the exercise of warrants in May 2003
      pursuant to which the Company purchased 630,000 shares of Mainsoft for an
      aggregate of $378 thousand. Following the exercise, all remaining warrants
      expired in May 2003 (see also note 11A).

B.    IntraComp:

      IntraComp Group Inc. ("IntraComp") provides migration and conversion
      services for large scale systems and back-end integration services. During
      2000, the Company acquired a 53% controlling interest in IntraComp for an
      aggregate consideration of $3.4 million. IntraComp's results of operations
      were consolidated in the Company's financial statements beginning with the
      second quarter of 2000. In addition, the Company lent to IntraComp an
      aggregate amount of $2.3 million (as of May 12, 2004). During the second
      quarter of 2003, the Company purchased from the other shareholders of
      IntraComp the remaining outstanding share capital of IntraComp. As a
      result, the Company currently wholly owns IntraComp. Under the agreement
      with IntraComp's selling shareholders, the Company shall pay the
      consideration in two installments, the first installment in August 2004
      and the second in February 2006. The consideration shall be calculated
      based on IntraComp's accumulative earnings before interest and taxes
      during the three-year period commencing on January 1, 2003, subject to
      certain conditions. Following the purchase of the entire interest in
      IntraComp, the Company integrated IntraComp's business completely into the
      Company business.

C.    SCH:

      Since 2001 the Company wholly owns SCH- Software Conversion House Ltd., a
      developer and marketer of software conversion tools and services for
      midrange environments. SCH's results of operations were initially
      consolidated in the Company's 1998 financial statements. Following the
      purchase of the entire interest in SCH, the Company assimilated SCH's
      business lines into its business, integrating SCH's entire activity with
      its own.


                                      F-16

<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 2 - Certain Transactions (cont.):

D.    Alexandria:

      During 1999, the Company purchased 19% of the outstanding share capital of
      Alexandria Migration Technologies Ltd., which develops C-MIDAS. In 2002,
      the Company purchased from the other shareholder of Alexandria his entire
      shareholdings in Alexandria, constituting 81% of Alexandria's outstanding
      share capital, for an aggregate amount of $ 585,000, which was paid in
      April 2003. As a result, the Company currently wholly owns Alexandria and
      its entire activity integrated within the Company's business. As of
      December 31, 2003, the Company lent to Alexandria approximately $3.9
      million in the aggregate, of which the Company wrote off $2.5 million in
      2001 due to the uncertainty of repayment of the entire loan amount.

E.    Liraz:

      In November 2002, the Company purchased through a share exchange
      transaction, approximately 86% of the outstanding share capital of Liraz
      Systems Ltd., or Liraz, an international software and services company
      then publicly traded on the Tel Aviv Stock Exchange ("TASE"). Liraz,
      through a wholly owned subsidiary, develops and markets the AppBuilder, a
      software product used for the development of sophisticated and robust
      applications needed by large enterprises.

      As part of the share exchange transaction, the Company issued to Liraz's
      selling shareholders, including Formula, 3,478,624 ordinary shares,
      constituting an aggregate of 26% of the Company's outstanding share
      capital.

      The acquisition of Liraz was recorded in the Company's accounts as
      follows:

      -     With respect to Liraz shares acquired from Formula - at the carrying
            value in Formula's accounts, in the aggregate of $10.0 million.

      -     With respect to Liraz shares acquired from other parties- at the
            market value of the consideration paid, in the aggregate of $2.9
            million.

      The market value of the total consideration paid in this acquisition was
      $8.8 million. The purchase price was determined in September 2002, based
      on the average ratio of the Company's share price to Liraz's share price
      in the preceding two months.


                                      F-17
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 2 - Certain Transactions (cont.):

E.    Liraz (cont.):

      Following are the amounts assigned to major components of Liraz's balance
      sheet as of the date of purchase (in thousands):

      Current assets              $7,938
      Long-term investments         $276
      Fixed assets                  $782
      Goodwill                   $22,300
      Other assets                   $41
      Current liabilities       $(11,820)
      Long-term liabilities      $(3,975)
      Minority interest          $(2,658)

      Liraz's results of operations were consolidated in the Company's financial
      statements beginning with the fourth quarter of 2002. Goodwill arising
      upon acquisition amounted to $22.3 million. The following unaudited pro
      forma summary presents information as if the acquisition of Liraz had
      occurred as of January 1, 2001. The pro forma information, which is
      provided for informational purposes only, is based on historical
      information and does not necessarily reflect the results that would have
      occurred, nor is it necessarily indicative of future results of operations
      of the consolidated entity.

<TABLE>
<CAPTION>

                                                        Year ended                    Year ended
                                                     December 31, 2002            December 31, 2001
                                                ----------------------------  ---------------------------
                                                      (In thousands,                (In thousands,
                                                  except per share data)        except per share data)
                                                ----------------------------  ---------------------------
                                                                      (Unaudited)
                                                ---------------------------------------------------------

<S>                                                        <C>                           <C>
     Revenues *                                            $53,100                       $64,144
                                                           -------                       -------
     Net income (loss) *                                    $1,911                      $(37,357)
                                                           -------                       -------
     Earning (loss) per share - basic                        0.14                         (2.8)
                                                           -------                       -------
     Earning (loss) per share - diluted                      0.14                         (2.8)
                                                           -------                       -------
</TABLE>

     * Revenues and net loss for 2001 include the results of operations of Level
       8 (see Note 2H), which was sold by Liraz in 2001.


                                      F-18
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 2 - Certain Transactions (cont.):

E.    Liraz (cont.):

      In two public tender offers that the Company published in December 2002
      and March 2003, the Company purchased additional shares of Liraz
      representing 9.0% of the outstanding share capital of Liraz. In March
      2003, pursuant to the provisions of the Israeli Companies Law, the Company
      purchased the remaining outstanding share capital of Liraz. The total
      aggregate amount of those purchases was $2.7 million. Following these
      transactions, the Company currently holds the entire outstanding share
      capital of Liraz. The total carrying amount of the investment in Liraz
      following these transactions was $15.6 million. During 2003, the Company
      assimilated and integrated Liraz's infrastructure, management personal and
      sale and marketing activities within the Company's business. The Company
      is in the process of integrating Liraz's technology, products, service
      offering and research and development activities within the Company
      business.

F.    Alphatech:

      In December 2002, the Company purchased from Intercomp a 65% controlling
      interest in Alphatech (2000) Srl. ("Alphatech") for an aggregate
      consideration of $100 thousand. Alphatech, a company incorporated in
      Rumania, provides software development services.

G.    SDC:

      In October 2002, Liraz, through a wholly owned subsidiary, acquired from
      SDC FinansSystems A/S ("SDC"), a company incorporated in Denmark, its IT
      development services activities relating to customers in the banking
      sector in Denmark. Pursuant to the purchase agreement, the Company hired
      100 employees of SDC, of which 30 employees were dismissed during the
      first quarter of 2003. The seller agreed to reimburse the Company for any
      costs associated with such dismissal. Pursuant to the purchase agreement,
      the Company assumed all the obligations in respect of the purchased
      activity and paid an aggregate amount of $800 thousand for the purchased
      goodwill and activities. The purchase price was determined in October
      2002, based on the estimated fair value of the assets received. The
      purchase was recorded as a business combination.

      The Company acquired SDC for the purpose of complementing its array of
      products and services. Following are the amounts assigned to major
      components of SDC's balance sheet as of the date of purchase (in
      thousands):
      Current assets              $1,097
      Other assets               $   131
      Current liabilities        $(1,228)

      Goodwill arising upon acquisition was $800 thousands.


                                      F-19
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 2 - Certain Transactions (cont.):

G.    SDC (cont.):

      In addition, the Company entered into an agreement with two of the
      seller's shareholders, pursuant to which the shareholders are purchasing
      from the Company IT development services.

H.    Level 8:

      The Company holds shares and several capital instruments, including
      warrants and rights to receive warrants exercisable into shares of Level 8
      Systems Inc. If the Company exercises these capital instruments in full,
      its shareholding in Level 8 would reach 4%. During 2003 and in the first
      quarter of 2004, the Company sold substantially all of the preferred stock
      of Level 8 then held by the Company for $624 thousand. In 2003, the
      Company purchased 444,444 ordinary shares of Level 8 for $200 thousand.
      Liraz consolidated level 8 until June 30, 2001. Since then Liraz recorded
      equity losses in level 8 up to the amount of its guarantee. In addition,
      the Company extended to Level 8 guarantees of approximately $2 million in
      the aggregate. As consideration for the extension of such guarantees which
      will be outstanding until November 2004, the Company has been issued
      300,000 Level 8 ordinary shares.

I.    CePost:

      In January 2004, the Company purchased the entire outstanding share
      capital of CePost Ltd., an Israeli Company that develops and markets
      software solutions for electronic document mining, management and
      presentment. Pursuant to the purchase agreement, the Company paid to the
      shareholders of CePost $172,500 and issued to them 31,500 of the Company
      ordinary shares. In addition, the Company undertook to pay to the sellers
      royalties from CePost's revenues in an amount ranging between $120
      thousand and $1.5 million. At the Company's option, the Company may pay
      the royalties in the Company ordinary shares.

J.    Outlook:

      Effective as of January 2004, the Company acquired from an Israeli
      company, Outlook Systems Ltd., through the Company new wholly owned
      subsidiary, Outlook & BluePhoenix Ltd., Outlook System's entire business
      activities in the field of software development services. Pursuant to the
      purchase agreement, the Company hired 31 employees previously employed by
      Outlook Systems and assumed all the obligations in respect of the
      purchased activity. These obligations include the extension of a guarantee
      to banks with respect to loans in an aggregate amount of $720,000 plus
      interest accrued, to be repaid by the Company by February 15, 2007. In
      addition, under the purchase agreement, the Company undertook to pay the
      shareholders of Outlook Systems in the first quarter of 2007, an amount
      equal to between 5 and 7 times of the average operating profit of Outlook
      & BluePhoenix Ltd. in the years 2004, 2005 and 2006, less the amount of
      $720,000.


                                      F-20
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 3 - Investments in Affiliates and Other Companies:

A. 1. The investments are composed and presented as follows:

<TABLE>
<CAPTION>

                                                                           December 31,
                                                                       --------------------
                                                                        2003          2002
                                                                        ----          ----
                                                                          (in thousands)
                                                                       --------------------

<S>         <C>                                                       <C>           <C>
            Cost of shares *                                             6,050       $3,000
            Less - accumulated amortization of goodwill                  (272)         (238)
            Equity in post-acquisition accumulated losses              (5,328)       (2,271)

                                                                           450          491
            Loans granted to affiliates (2)                              2,928         2,584
            Loans granted to others (3)                                    216          300
            Investments in other companies                                 200          100

                                                                        3,794         3,475

            * Including goodwill - original amount                      $4,756         $613
                                                                        ======      ========
</TABLE>

      2.    The loans are linked to the dollar and some of them bear an annual
            interest of LIBOR +1%.

      3.    The loans are linked to the Israeli consumer price index and bear an
            annual interest at a rate of 4%.

      Following are details relating to the financial position and results of
      operations of investees in the aggregate:
                                                            December 31,
                                                      -----------------------
                                                        2003          2002
                                                        ----          ----
                                                          (in thousands)
                                                      -----------------------

     Total assets                                      $ 15,557     $ 20,747

     Total liabilities                                $ (11,727)    $ (9,677)
     Net loss                                          $ (1,578)    $ (1,001)
                                                      =========     ========

B.    Intercomp:

      In 1998, the Company invested in Intercomp Ltd., which has developed a set
      of automated analysis and reengineering tools for legacy COBOL
      applications. During 2002 and 2003 Intercomp has focused its efforts
      towards the development of software tools that comprise a part of the
      Company's LogicMiner.

      In the first quarter of 2004, the Company exercised an option to purchase
      additional shares of Intercomp, increasing its shareholdings in Intercomp
      to 62%. In the fourth quarter of 2003, the Company exercised an option to
      purchase from Intercomp certain technology for an aggregate of $1.9
      million. In addition, the Company undertook to pay to Intercomp royalties
      of 25% of the revenues generated from the purchased technology.


                                      F-21
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 3 - Investments in Affiliates and Other Companies (cont.):

B.    Intercomp (cont.):

      The Company assumed the rights and obligations of Intercomp under a
      distribution agreement pursuant to which Intercomp granted rights to a
      distributor to further develop and distribute Intercomp's products. As of
      December 31, 2003, the Company lent to Intercomp an aggregate of
      approximately $1.8 million, which are convertible into preferred shares of
      Intercomp, subject to certain conditions. In April 2004, a shareholder of
      Intercomp Israel Infinity Venture Capital Partners Ltd. referred to as
      Infinity, granted the Company a call option to purchase its entire holding
      in Intercomp, exercisable until April 1, 2006 (see Note 12B3).
      The Company granted a creditor of Intercomp - First Israel Mezzanine
      Investors Ltd., known as FIMI, a put option to sell to the Company
      promissory notes issued by Intercomp in an aggregate amount of $3.5
      million plus interest accrued at an annual rate of 5% (see Note 12B2).

C.    Tesnet:

      Effective as of January 1999, The Company acquired 32% of the outstanding
      share capital of Tesnet - Software Testing Ltd. ("Tesnet"), a provider of
      testing and software quality assurance services. Tesnet's results of
      operations were consolidated in the Company's financial statements
      beginning with the first quarter of 1999, owing to the Company's control
      of Tesnet's board of directors. The Company paid for its holding in Tesnet
      approximately $2 million, during 1999 and 2002 as Tesnet met an agreed
      upon earnings target within three years following the acquisition. Total
      goodwill arising from this acquisition was $886 thousand.
      In February 2000, Tesnet consummated a public offering of its shares on
      the Tel-Aviv Stock Exchange. Net proceeds from the offering were $9.5
      million. As a result, the Company recorded a capital gain of $1 million
      and its shareholdings in Tesnet decreased to 22%, and consequently the
      Company ceased controlling Tesnet's board of directors and consolidating
      the operating results of Tesnet during the first quarter of 2000.
      Until December 2003, the Company's investment in Tesnet is accounted for
      under the equity method, owing to the fact that the Company exercises
      significant influence over operating and financial policies of Tesnet by
      virtue of representation on Tesnet's board of directors.
      The market value of the Company's holding in Tesnet as of December 31,
      2003 was $2.8 million. During 2000, the Company sold a portion of its
      holdings, which constitutes 3% of the outstanding share capital of Tesnet,
      and in the first quarter of 2004, the Company sold its entire remaining
      holding in Tesnet for aggregate consideration of approximately $3.1
      million. The gain from the sale was immaterial.

                                      F-22
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 3 - Investments in Affiliates and Other Companies (cont.):

D.    MultiConn:

      In 1999, the Company acquired 51% of the outstanding share capital of
      M.S.I. MultiConn Solutions International (1995) Ltd. ("M.S.I. MultiConn").
      M.S.I. MultiConn's results of operations were consolidated in the
      Company's financial statements beginning with the third quarter of 1999.
      In 2000 the Company increased its holding in M.S.I. MultiConn to 60%.
      M.S.I. MultiConn develops, through an affiliate Multiconn Technologies,
      and markets eMulticonn and related solutions referred to as eXpernato.

      Effective as January 2004, the other shareholders of M.S.I. MultiConn
      transferred their entire holdings in M.S.I MultiConn to the Company. The
      Company currently wholly own M.S.I MultiConn and finance its activities.

      During 2000 and 2001, the Company lent to Multiconn Technologies $2.1
      million.

      Effective as of December 2002, the Company exercised an option to convert
      $1 million of the loan into shares of Multiconn Technologies and as a
      result the Company's holdings increased to 60%. Following a transaction
      entered into between the Company and other shareholders of MultiConn
      Technologies in 2004, the Company currently hold 40% of the outstanding
      share capital of, and has an option to increase its holding in, MultiConn
      Technologies to 60% of the outstanding share capital.

      In 2002 and 2003, the Company wrote down $1.8 million and $350 thousand,
      respectively, of the balance of its investment and loan to Multiconn
      Technologies, due to impairment of the investments and limited visibility
      of repayment.

      In May 2004, the Company provided on behalf of MultiConn Technologies a
      guarantee in the amount of $300,000.

      The Company recorded the investment under the equity method and did not
      consolidate the result of operation of M.S.I. MultiConn and Multiconn
      Technologies Since the first quarter of 2003, due to lack of control.

      Following the acquisition of the remaining shareholding of M.S.I.
      MultiConn from the other shareholders, effective as of the first quarter
      of 2004, M.S.I. MultiConn's results are consolidated with the Company
      results.

      Following are details relating to the financial position and result of
      operation of M.S.I. MultiConn and MultiConn Technologies Ltd. In the
      aggregate:

                                                    December 31, 2003
                                                     (in thousands)

Total assets                                              2,205
Total liabilities                                        (2,530)
Revenue                                                   1,242
Net loss                                                   (398)


                                      F-23
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 4 - Fixed Assets:
Composition of assets, grouped by major classifications:

                                                           December 31,
                                                        ------------------
                                                        2003          2002
                                                        ----          ----
                                                           (in thousands)
                                                        ------------------
     Cost:
         Computers and computer equipment             $ 6,544        $ 8,004
         Office furniture and equipment                 1,071         1,574
         Leasehold improvements                           442           469
         Motor vehicles                                   863         1,126

                                                        8,920        11,173

     Accumulated Depreciation:
         Computers and computer equipment               5,064         6,136
         Office furniture and equipment                   492           852
         Leasehold improvements                           206           179
         Motor vehicles                                   359           434

                                                        6,121         7,601

     Undepreciated balance                            $ 2,799       $ 3,572
                                                      =======       =======


Note 5 - Goodwill:
                                                          December 31,
                                                      --------------------
                                                       2003         2002
                                                       ----         ----
                                                         (in thousands)
                                                     ---------------------

Carrying amounts at beginning of year                $ 44,695      $ 14,737
Acquired                                                  756        29,958
Realization of previously - consolidated
  subsidiaries                                         (2,132)          -
Foreign currency translation adjustments               (3,054)          -
                                                     --------      --------
      Carrying amount at end of year                 $ 40,265      $ 44,695
                                                     ========      ========



                                      F-24

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 6 - Capitalized Software Development Costs and Other:

Comprised as follows:
                                                                December 31,
                                                            --------------------
                                                             2003          2002
                                                             ----          ----
                                                               (in thousands)
                                                            --------------------

    Capitalized software development costs (*)              $ 7,692     $ 5,268
    Deferred insurance expenses                                  30          38
    Rent deposit                                                170         189
    Deferred tax asset                                           43         563
                                                            -------     -------

                                                              7,935     $ 6,058
                                                            =======     =======

    (*)  Original amount (see Note 3B - in respect to
           purchase of technology)                           13,146     $ 8,071
            Less - accumulated amortization                   5,454       2,803
                                                            -------     -------

                                                            $ 7,692     $ 5,268
                                                            =======     =======

Note 7 - Short-Term Bank Credit:
Composition:
<TABLE>
<CAPTION>

                             Interest rate
                             December 31,                          December 31,
                                 2003           Linkage         2003          2002
                                 ----           -------         ----          ----
                                   %             basis            (in thousands)
                             -------------     ----------     ----------------------
<S>                            <C>             <C>             <C>           <C>
Bank overdraft                 8.95-10.5        Unlinked        $1,003        $2,553
Short-term bank loan            4.32-8.5           CPI             448           298
Short-term bank loan           3.05-3.55         Dollar          3,225         2,797
Short-term bank loan            4.18-4.4          Euro           3,666         1,825
                                                                ------        ------
                                                                $8,342        $7,473
                                                                ======        ======
</TABLE>


                                      F-25
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 8 - Accrued Severance Pay, Net:

A.    The Company's liability for severance pay to its employees pursuant to
      applicable local laws prevailing in the respective countries of employment
      and employment agreements for Israeli employee is partly covered by
      managers' insurance policies under the name of the employee, for which the
      Company makes monthly payments. The severance pay liability is calculated
      on the basis of one month's salary for each year of service, based on the
      most recent salary of each employee.

      The amounts accrued and the amounts funded with managers' insurance
      policies are as follows:

                                                            December 31,
                                                       --------------------
                                                         2003         2002
                                                         ----         ----
                                                           (in thousands)
                                                       --------------------

      Accrued severance pay                            $ 3,575      $ 3,189
      Less - amount funded                               2,660        2,258

                                                         $ 915        $ 931
                                                       =======      =======

      The Company may make withdrawals from the managers' insurance policies
      only for the purpose of paying severance pay.

B.    The expenses in respect of severance pay for the years ended December 31,
      2003, 2002 and 2001 were $720,000, $461,000 and $642,000, respectively.

Note 9 - Provision for losses in formerly-consolidated subsidiary:

Liraz (see Note 2E) is liable for losses in a subsidiary it had consolidated up
until the second quarter of 2001. The provision for such liability at December
31, 2003, amounted to $2 million (December 31, 2002 - $2.5 million),
representing the amount Liraz has guaranteed to secure the liabilities of the
said subsidiary. Under its terms, such guarantee may be reduced to the extent
that the subsidiary raises additional share capital. In 2003 $541,000 was
recorded as gain.



                                      F-26
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


<TABLE>
<CAPTION>

Note 10 - Loans from banks:

A.    Composition:

                                                                            Total long-term          Total long-term
                                           Long-term       Current         liabilities net of       liabilities net of
        Interest rate                     liabilities     maturities       current maturities       current maturities
        -------------                     -----------     ----------       ------------------       ------------------
         December 31,
            2003            Linkage                     December 31, 2003                           December 31, 2002
              %              basis                       (in thousands)                              (in thousands)
         -----------      ----------     ----------------------------------------------------       -------------------
<S>       <C>                <C>              <C>            <C>                <C>                       <C>
          LIBOR+1.75         Dollar           $2,389           $467               $1,922                  $ 2,400
          4.32-7.66           CPI                148            63                   85                       126
             6.63            Dollar              101            43                   58                       126
                                             -------         -----              -------                   -------
                                             $ 2,638         $ 573              $ 2,065                   $ 2,652
                                             =======         =====              =======                   =======
</TABLE>


B.       Maturity dates:
                                                      December 31,
                                              ------------------------------
                                                  2003            2002
                                              --------------  --------------
                                                      (in thousands)
                                              ------------------------------

     First year (current maturities)               $ 573             $75
     Second year                                   1,329             562
     Third year                                      736           1,329
     Fourth year                                    -                761

         Total                                   $ 2,638         $ 2,727
                                                 =======         =======

Note 11 - Commitments and contingencies:

Commitments:

Significant Agreements:

A.    In August 1998, the Company's subsidiary, Mainsoft Corporation, entered
      into a Windows secure-code licensing agreement. Pursuant to this agreement
      and the amendments thereto, Microsoft granted Mainsoft access to specified
      Microsoft source code, including new versions, service packs, and upgrade
      releases for Windows. Microsoft also granted Mainsoft distribution rights
      to the Windows object code licensed as a component in Mainsoft's products.
      The Agreement provides for the payment of royalties to Microsoft that are
      based upon Mainsoft's licensing of its products which include the Licensed
      Software. The Agreement has a perpetual term although: 1) Microsoft may
      terminate the Agreement upon any one of certain events regarding change of
      control of Mainsoft (the "change of Control Events") and 2) either party
      may terminate the Agreement if the other fails to comply with the terms of
      the Agreement or files for bankruptcy.


                                      F-27
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 11 - Commitments and contingencies (cont.):

Commitments (cont.):

Significant Agreements (cont.):

A.       (cont.):

      Change of Control Events include any third party attempt to acquire (a) a
      seat on Mainsoft's board of directors (b) specified percentages of
      Mainsoft's voting common stock or (c) part ownership or all rights to
      Mainsoft's products.

      Mainsoft must notify Microsoft in the event of a Change of Control Event.
      Upon receipt of such notice, Microsoft may elect to (a) acquire any
      percentage of Mainsoft at the proposed price per share or (b) acquire
      Mainsoft's products at the proposed price. In the event Mainsoft ceases
      the active distribution or licensing of its products for more than one
      year, Mainsoft will be deemed to have granted to Microsoft a worldwide
      exclusive perpetual irrevocable royalty-free license to its products. The
      Agreement provides for a procedure under which Mainsoft may request a
      waiver of the payment of certain royalties to Microsoft on a specified
      customer basis. Upon recording revenue from a customer, Mainsoft accrues
      the royalties due to Microsoft in product cost of revenues and often
      applies for a waiver. Mainsoft recognizes a reduction in product cost of
      revenues when a waiver is approved by Microsoft.
      In December 2003, Mainsoft entered into an Independent Contractor
      Agreement with Microsoft. As a result of this agreement, Microsoft agrees
      to apply the value of the Mainsoft's services performed under the
      Independent Contractor Agreement to accrued royalties up to $1,605
      thousand. During the year ended December 31, 2003, Mainsoft accrued
      royalties due Microsoft of $2,782 thousand and recognized credits
      (reductions to expense) related to waivers and to services performed of
      $2,466 thousand and $999 thousand respectively.

      On February 13, 2004 there were public reports that a leak of Microsoft
      source code had occurred on the Internet. These reports indicated that the
      source code contained trace references to the Mainsoft servers and
      personnel. Mainsoft's management team immediately adopted a policy of full
      cooperation with local authorities, the FBI, and Microsoft in their
      respective investigation. Mainsoft, through an internal investigation into
      the leak, confirmed that the code had come from one of their servers but
      was most likely extracted some time in 2001. All parties conducting
      investigations have found no trace of a security breach after that date.
      According to the FBI, the investigation is still active and they are
      proceeding with the investigation to date. While Mainsoft believes its
      relationship with Microsoft will continue on terms acceptable to Mainsoft,
      a change in the relationship could materially adversely affect Mainsoft`s
      business, results of operation, and financial condition.


                                      F-28
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 11 - Commitments and contingencies (cont.):

Commitments (cont.):

Significant Agreements (cont.):

      (cont.):

B.    The Company is obligated to pay Formula management fees in an annual
      amount equal to 3% of revenues, but not more than the Israeli currency
      equivalent of $180 thousand.

C.    The Company is committed under operating leases for rental of office
      facilities for the years 2004-2006. Annual rental fees under current
      leases are approximately $1.7 million for 2004 and $1.8 million for 2005,
      and are expected to remain at this level for each of the next five years.
      In connection with such leases, the Company has issued bank guarantees of
      $113 thousand in favor of the leasing companies, for the term of the
      leases.

D.    Through December 31, 2003, Mainsoft entered into a grant agreement with
      the office of the Chief Scientist, or the OCS, for the development of
      Visual MainWin for J2EE. Royalties of 3% are payable to the OCS on sales
      of visual MainWin for J2EE up to 100% of the dollar - linked grant
      received in respect of the funded product.
      The balance of the contingent liability relating to the above royalties at
      December 31, 2003 amounted to approximately $570 thousands. Mainsoft has
      submitted an application to the OCS for approval of research and
      development grants for 2004.

E.    As of January 1, 2004 our subsidiary CePost entered into a grant agreement
      with the Office of the Chief Scientist or the OCS for the development of
      PowerText. Royalties of 3% are payable to the OCS on sales of PowerText up
      to 100% of the dollar-linked grant received in respect of the funded
      product. The balance of the contingent liability relating to the above
      royalties at January 1, 2004 amounted to approximately $250 thousand.

F.    The Company has guaranteed short-term bank credit of affiliated companies
      in favor of lending banks. As of December 31, 2003, such guarantees
      amounted to approximately $1 million. The guarantees are for one-year
      terms, and may optionally be extended for further periods of one year
      each.

G.    The Company has granted a creditor of Intercomp an option - See Note 3B.
      H. As to a tax assessment issued to the Company - see Note 14K.

I.    As to a guarantee of debt by Liraz - see Note 9.


                                      F-29
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 11 - Commitments and contingencies (cont.):

Commitments (cont.):

Significant Agreements (cont.):

J.    Under an agreement entered into in 2000 regarding the sale of its
      integrated IT systems activities and outsourcing business in Israel, Liraz
      is obligated to reimburse the buyer for claims related to the activities
      during the period prior to the sale.

K.    Liraz has a fixed charge in favor of a bank, on certain of its assets, as
      well as a floating charge on its entire assets, securing Liraz's bank
      credit line. This credit facility also covers guarantees of $2 million in
      the aggregate that the Company extended to banks relating to the credit
      line of level 8 (see note 9).

L.    In the first quarter of 2004, the Singapore-Israel Industrial Research and
      Development Foundation agreed to provide CePost together with a company
      incorporated in Singapore, financing for the development of Report-IT.
      Accordingly, the foundation agreed to award CePost up to $100 thousand
      payable according to an agreed upon schedule. CePost is required to pay
      that amount that in payments based on sales of the Report-IT up to the
      amount of the grant.

M.    As to a guarantee to banks with respect to a loan of Outlook - see Note
      2J.

No liability was recorded in the Company's financial statements in respect of
the guarantees mentioned above, except for the guarantee by Liraz - see Note 9.

Contingencies:

A.    In July 2003, a former Liraz's shareholder filed an application with the
      Tel-Aviv-Jaffa District Court to approve a claim filed by him against the
      Company, as a class action. The claim relates to the acquisition of Liraz
      shares which the Company completed in March 2003. The shareholder alleges
      that the share price that the Company paid to Liraz's shareholders in the
      tender offer and in a subsequent mandatory purchase was lower than the
      fair price of Liraz shares. The maximum amount of the claim is
      approximately $5.8 million in the aggregate. Under Israeli law, the
      court's approval is required for the plaintiff to represent all of the
      shareholders of Liraz who sold their shareholdings to the Company pursuant
      to the tender offer and the mandatory acquisition. The plaintiff has
      applied for such approval in the lawsuit. A preliminary hearing is
      scheduled for October 2004. The Company believes that the allegations
      against the Company in this proceed are without merit. However, if the
      Company is not successful in defending this claim, it could be exposed to
      considerable financial liabilities and as a result, its financial
      conditions could be materially adversely harmed.


                                      F-30
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 11 - Commitments and contingencies (cont.):

Contingencies (cont.):

B.    Sogeti Nederland B.V. ("Sogeti"), a Dutch company, has notified the
      Company of the termination of a migration project which was performed
      jointly by Sogeti and one of the Company's wholly owned subsidiaries, ASE
      B.V., for a Dutch customer, NV Interpolis BTL, due to an alleged breach on
      the Company's part. The project was performed by Sogeti as prime
      contractor and by ASE as subcontractor. BluePhoenix acted as subcontractor
      of ASE. In March 2004, Sogeti was granted by the district court in
      Amsterdam leave to put a lien over a bank account of ASE pursuant to an ex
      parte application. In the application, Sogeti claims that it has to make,
      or has made, a refund to Interpolis of 2.2 million Euro and that it may
      suffer losses of at least 150,000 Euro. For purposes of the lien
      application, Sogeti estimates the aggregate amount of the claim at 3
      million Euro. Sogeti has to file against ASE B.V. by the end of June 2004.
      The Company believes that the alleged claim of Sogeti as described in the
      application for the lien is without merit. If the Company is not
      successful in defending this claim, it could be exposed to considerable
      financial liabilities and as a result, its financial conditions could be
      materially adversely harmed.

Note 12 - Shareholders' Equity:

A.    Share capital:

      1.    On January 31, 1997, 3,120,000 ordinary shares of the Company were
            offered in an initial public offering (the "IPO") at a price of $7.5
            per share. Since the above transaction, the Company's shares have
            been traded in the United States on the NASDAQ National Market.
            Their current symbol is "BPHX".

      2.    On July 22, 1997, 1,200,000 ordinary shares of the Company were
            offered in a second public offering, at a price of $27 per share, of
            which 600,000 ordinary shares were issued by the Company and 600,000
            ordinary shares were sold by existing shareholders.

      3.    During the years 1998 through 2002, two subsidiaries of the Company
            purchased a total of 1,870,565 the Company's shares for a total
            consideration of $14.7 million. All of the Company's ordinary shares
            have equal voting rights. However, under applicable Israeli law, the
            shares held by the Company's subsidiaries have no voting rights and,
            therefore, are excluded from the number of its outstanding shares.

      4.    In January 2001 the Company's ordinary shares were listed for
            trading on the Tel Aviv Stock Exchange under the "Dual Listing"
            arrangement.

      5.    In November 2002 the Company issued to Liraz's selling shareholders,
            including Formula, 3,478,624 ordinary shares, constituting an
            aggregate of 26% of the Company's outstanding share capital - see
            Note 2E.


                                      F-31
<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 12 - Shareholders' Equity (cont.):

B.    Share Options:

      1.    Employee Share Option Plans:

            a)    The 1996 Share Option Plan: In 1996, the Company adopted two
                  option plans. One of theses option plans has been terminated
                  after all options granted under it have been exercised.
                  Pursuant to the other 1996 option plan, as amended, the
                  Company reserved 3,200,000 ordinary shares for issuance to
                  directors, officers, consultants and employees of the Company
                  and its subsidiaries. The exercise price of the options
                  granted under the 1996 option plan range from $2.25 to $10.50.

                  Under the 1996 option plan, unless determined otherwise by the
                  Board, options vest over a three-year period from the date of
                  grant and expire 10 years after grant date. Unvested options
                  are forfeited upon termination of employment.

            b)    Options granted to employees of a subsidiary:

                 In August 2000, in connection with the purchase of a
                 controlling interest in IntraComp Group Incorporated, the
                 Company granted to certain employees of IntraComp options to
                 purchase an aggregate of 125,000 ordinary shares of which
                 55,000 were cancelled. The exercise price of the options is
                 $9.625 per the Company's share. All of these options are
                 currently exercisable. The options shall expire in August 2010.



                                      F-32

<PAGE>


      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 12 - Shareholders' Equity (cont.):

B. Share Options (cont.):

      1. Employee Share Option Plans (cont.):

            b) Options granted to employees of a subsidiary (cont.):

            Data in respect of the share option plan as of December 31, 2003,
            2002 and 2001 and changes during the years ended on those dates are
            as follows:

<TABLE>
<CAPTION>

                                                   2003                         2002                         2001
                                        ---------------------------- ---------------------------- ----------------------------
                                         Number of      Weighted      Number of      Weighted      Number of      Weighted
                                                         Average                      Average                      Average
                                                        Exercise                     Exercise                     Exercise
                                          options         Price        options         Price        options         Price
                                        ------------  -------------- ------------  -------------- ------------  --------------
                                                            $                            $                            $
                                                      --------------               --------------               --------------

<S>                                       <C>              <C>        <C>               <C>        <C>               <C>
         Options outstanding at
            beginning of year             1,347,260        6.56       1,193,650         7.55       1,150,650         8.21
         Changes during the year:
             Granted                        923,000        3.03         353,560         3.00         340,600         3.23
             Exercised                      (35,267)       2.33         (90,000)        3.57        (181,850)        2.74
             Forfeited                      (75,000)       9.46        (109,950)        8.90        (115,750)        8.75
                                         ----------                 -----------                   ----------
              Options outstanding
                at end of year            2,159,993        4.99       1,347,260         6.56       1,193,650         7.55
                                         ==========                  ==========                   ==========

         Options exercisable at
            year-end                      1,233,575        6.04         888,333         7.63         852,966         6.99
                                         ==========                  ==========                   ==========

         Weighted-average fair value
            of options granted during
            the year*                          0.54                        1.09                         1.40
                                         ==========                  ==========                   ==========
</TABLE>

      *     The fair value of each option granted is estimated on the date of
            grant, using the Black-Scholes option-pricing model with the
            following weighted average assumptions: dividend yield of 0% for all
            years; expected volatility: 2003 - 66% 2002 - 67%, 2001 - 61%,
            risk-free interest rate: 2003 - 1.75%, 2002 - 1.75%, 2001 - 3%, and
            expected life: 2003, 2002 and 2001-3 years.


                                      F-33

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 12 - Shareholders' Equity (cont.):

B.    Share Options (cont.):

      1.    Employee Share Option Plans (cont.):

            The following table summarizes information about fixed share options
            outstanding at December 31, 2003:

<TABLE>
<CAPTION>

                                               Options Outstanding                                Options Exercisable
                           -------------------------------------------------------------  -------------------------------------
              Range of         Number         Weighted Average       Weighted Average         Number        Weighted Average
                           Outstanding at                                                 Exercisable at
              Exercise      December 31,          Remaining                                December 31,
               Prices           2003          Contractual Life        Exercise Price           2003          Exercise Price
           --------------- --------------   ---------------------- ---------------------  ---------------  --------------------
                 $                                  Years                   $                                       $
           ---------------                  ---------------------- ---------------------                   --------------------

<S>              <C>             <C>                  <C>                    <C>                <C>              <C>
                 2.25            416,000              9.25                   2.25               41,000           2.25
                 3.00            116,000              9.50                   3.00               62,667           3.00
                 3.00            255,660              8.50                   3.00               85,220           3.00
                 3.00             80,000              8.09                   3.00               80,000           3.00
                 3.50             70,000              9.50                   3.50               70,000           3.50
                 3.50             47,000              9.75                   3.50               19,000           3.50
                 4.00            200,000              9.83                   4.00                -               4.00
                 4.50             68,333              7.50                   4.50               45,555           4.50
                 4.50             10,000              9.25                   4.50               10,000           4.50
                 5.20            139,500              2.75                   5.20              139,500           5.20
                 5.50             13,000              6.83                   5.50               13,000           5.50
                 6.00             28,000             10.00                   6.00               28,000           6.00
                 6.50            311,900              2.21                   6.50              311,900           6.50
                 6.50              2,000             10.00                   6.50                2,000           6.50
                 8.00             92,000              5.50                   8.00               92,000           8.00
                 9.00             10,000              5.75                   9.00               10,000           9.00
                 9.63             70,000              6.25                   9.63               70,000           9.63
                10.50            230,600              7.25                  10.50              153,733          10.50
                               ---------                                                     ---------
                               2,159,993                                                     1,233,575
                               =========                                                     =========
</TABLE>

      2. Options granted to FIMI:

            In January 2001, the Company granted to the creditors of an
            affiliate, Intercomp, represented by First Israel Mezzanine
            Investors Ltd., known as FIMI, a put option to sell to the Company
            promissory notes issued by Intercomp in an aggregate amount of $3.5
            million plus interest accrued since January 2001 at an annual rate
            of 5%, which could be paid, subject to FIMI's approval, in the
            Company's ordinary shares. The number of ordinary shares subject to
            the option will be calculated based on the average market price of
            the shares during the 14 trading days prior to the exercise of the
            option. In August 2003, the terms of FIMI's were amended, allowing
            FIMI to exercise its option in three installments during June 2004,
            June 2005 and June 2006. At the Company's option, the Company may
            pay FIMI the consideration, in the Company ordinary shares.


                                      F-34

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 12 - Shareholders' Equity (cont.):

B.    Share Options (cont.):

      2.    Options granted to FIMI (cont.):

            However, if FIMI so requests, the Company will have to pay FIMI the
            consideration for the promissory note in cash but then such payment
            shall be postponed to September 30, 2006. During 2004 FIMI submitted
            a notice, to exercise the June 2004 installment for cash, thus
            postponing the payment of the respective portion of the
            consideration to September 30, 2006. In addition, as part of the
            consideration, the Company is obliged to issue to FIMI warrants to
            purchase up to 336,000 of the Company's ordinary shares exercisable
            until June 30, 2007, at an exercise price of $4.00 per share. Under
            certain circumstances, the Company is obliged to register for resale
            the shares underlying FIMI's warrants.

      3.    Option granted to Infinity:

            In April 2004, a shareholder of Intercomp, Israel Infinity Venture
            Capital Partners Ltd. ("Infinity") granted the Company a call option
            to purchase its entire holdings in Intercomp, exercisable until
            April 1, 2006. If the Company does not exercise such option,
            Infinity will have a put option to cause the Company to purchase
            Infinity's entire holdings in Intercomp, exercisable during a period
            of six months commencing in April 2006. If either of the options is
            exercised, the Company shall be obliged to issue to Infinity, as
            consideration for the Intercomp's shares, 100,000 of the Company
            ordinary shares and an additional amount of shares to be calculated
            based on revenues generated from the sale of licenses to use
            Intercomp's products. The shares will be subject to a lock up period
            until April 1, 2006. The company may, at the Company's opinion, pay
            to Infinity the cash equivalent of such shares which will be
            calculated according to the average closing price of the Company's
            shares during the 20 trading days prior to the exercise of any of
            the options.

      4.    Convertible debentures and warrants:

            On March 30, 2004, the Company completed a $ 5 million private
            placement to four institutional investors convertible debentures and
            warrants. Under the terms of this transaction, the Company issued to
            each investor a 32 - month debenture bearing interest at an annual
            rate of 2% payable quarterly, at the Company option, in cash or in
            the Company ordinary shares . The debentures are convertible, at the
            investors' option, into the Company ordinary shares at a conversion
            price of $5.70 per share. In the event that the market price of the
            shares, calculated on a weighted average basis, exceeds $7.125 for
            20 consecutive trading days, the Company has the option to force the
            institutional investors to convert the outstanding amount of the
            debentures into Company's shares.


                                      F-35
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 12 - Shareholders' Equity (cont.):

B.    Share Options (cont.):

      4.    Convertible debentures and warrants (cont.):

            As part of the transaction, the institutional investors were also
            granted warrants in aggregate amount of $ 2.5 million exercisable
            into the Company's ordinary shares at an exercise price of $ 6.50
            per share. The warrants are exercisable during a period of 5 years
            commencing on September 2004. If the debentures issued to
            institutional investors are fully converted and the warrants are
            fully exercised, the Company would be required to issue to the
            investors up to 1,708,411 ordinary shares, subject to adjustments.
            Under certain circumstances, the investors may increase their
            investment by an additional $3 million of debentures and receive
            warrants on the same terms as the initial warrants, exercisable into
            such number of the Company's ordinary shares equal to 50% of the
            ordinary shares into which the debentures are convertible. If these
            additional debentures are fully converted and the additional
            warrants are exercised in full, the Company would be required to
            issue to the investors up to an additional 1,025,047 ordinary
            shares.
            In connection with the private placement, the Company agreed to file
            a registration statement for the resale of the ordinary shares
            underlying the convertible debentures and warrants.

      5.    Employee option plans in subsidiary:

            A subsidiary granted options to its employees to purchase the
            subsidiary's share. The options are exercisable in 3 years after the
            date of grant. A summary of the status of the option plans as of
            December 31, 2003 and 2002 and changes during the years then ended
            is given below:

<TABLE>
<CAPTION>

                                                                    2003                           2002
                                                         ---------------------------- --------------------------------
                                                          Number of      Weighted       Number of        Weighted
                                                                          Average
                                                                         Exercise                         Average
                                                           options         Price         options      Exercise Price
                                                         ------------- -------------- --------------  ----------------
                                                                             $                               $
                                                                       --------------                 ----------------

<S>                                                        <C>              <C>          <C>                <C>
     Options outstanding at beginning of year              3,751,250        0.75         3,537,813          1.36
     Changes during the year:
         Granted                                             548,303        0.65         2,841,448          0.65
         Exercised                                            -              -             (10,000)         0.25
         Forfeited                                          (605,316)       0.75        (2,618,011)         1.64
                                                           ---------                     ---------
          Options outstanding at end of year
                                                           3,694,237        0.74         3,751,250          0.75
                                                           =========                     =========

     Options exercisable at year-end                       2,203,370        0.76         1,211,637          1.09
                                                           =========                     =========
     Weighted-average fair value of options granted
       during the year *                                        0.07                          0.09
                                                           =========                     =========
</TABLE>


                                      F-36
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 12 - Shareholders' Equity (cont.):

B.    Share Options (cont.):

      5. Employee option plans in subsidiary (cont.):

            *     The fair value of each option granted is estimated on the date
                  of grant, using the Black-Scholes option-pricing model with
                  the following weighted average assumptions: dividend yield of
                  0% for all years; expected volatility: 2003 - 0.1% 2002 -
                  0.1%, risk-free interest rate: 2003 - 3.00%, 2002 - 4.00%, and
                  expected life: 2003, 2002 -4 years.

            The following table summarizes information about fixed share options
            outstanding at December 31, 2003:

<TABLE>
<CAPTION>

                                               Options Outstanding                                Options Exercisable
                           -------------------------------------------------------------  -------------------------------------
              Range of         Number         Weighted Average       Weighted Average         Number        Weighted Average
                           Outstanding at                                                 Exercisable at
              Exercise      December 31,          Remaining                                December 31,
               Prices           2003          Contractual Life        Exercise Price           2003          Exercise Price
           --------------- ---------------- ---------------------- ----------------       --------------   --------------------
                 $                                  Years                   $                                       $
           ---------------                  ---------------------- ---------------------                   --------------------

<S>          <C>             <C>                    <C>                  <C>               <C>                  <C>
             0.25-0.50          799,421              12.38                 0.26                 799,421            0.26
                0.65          2,672,423               8.89                 0.65              1,195,608             0.65
              0.75-2.5          222,393               9.51                 1.38                 208,341            1.38
                              ---------                                                      ---------
                              3,694,237                                                       2,203,370
                              =========                                                      =========
</TABLE>


C.    Dividends:

      1.    The Company has not paid any cash dividends on its ordinary shares
            in the past and does not expect to pay cash dividends on its
            ordinary shares in the foreseeable future.

      2.    As described in Note 14A, in the event of distribution of cash
            dividends in the amount of approximately $12.8 million out of
            retained earnings, in respect of which the Company was tax exempt
            due to the "Approved Enterprise" status of its approved operations,
            the Company would have to pay a 25% tax on the said amount.


                                      F-37
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 13 - Monetary Balances in Non-dollar Currency:

                                                            December 31,
                                                        ----------------------
                                                         2003          2002
                                                         ----          ----
                                                           (in thousands)
                                                        ----------------------
ASSETS:
   Current assets                                       $12,737       $14,805
   Long-term assets                                          32         -

                                                         12,769        14,805

LIABILITIES:
   Current liabilities                                   18,311        19,655
   Long-term liabilities                                    948         1,041

                                                         19,259        20,696


      Net monetary liabilities                          $(6,490)      $(5,891)
                                                        =======       =======


Note 14 - Taxes on Income:

A.    Tax benefits under the Israeli Law for the Encouragement of Capital
      Investments, 1959 (hereafter - the "Law"): Some operations of BluePhoenix
      and certain subsidiaries ("BluePhoenix and the Subsidiaries") have been
      granted "Approved Enterprise" status under the Law. Since BluePhoenix and
      the Subsidiaries have elected to receive "alternative benefits" under the
      Law (i.e. - waiver of grants in exchange for a tax exemption for a limited
      period), the following tax rates will apply to its income from the
      Approved Enterprise (which will be determined based on the increase in the
      revenue of BluePhoenix or the Subsidiaries during the year in relation to
      the revenue in the year preceding the first year of their having the
      abovementioned status):

      Tax exemption for 2 years, commencing in the first year it generates
      taxable income. For the remainder of the benefit period - 5 years - a
      reduced tax rate of 25%.

      Since January 31, 1997, the percentage of BluePhoenix share capital held
      by foreign shareholders has exceeded 25%, and therefore BluePhoenix
      Approved Enterprises qualify for reduced tax rates for an additional three
      years after the seven years mentioned above.

      The period of tax benefits described above will terminate after the lapse
      of 7-10 years since the first year in which BluePhoenix or the
      Subsidiaries have taxable income and 14 years since the approved
      enterprise has been granted and 12 years since the commencing of the
      approved enterprise.


                                      F-38

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 14 - Taxes on Income (cont.):

A.    Tax benefits under the Israeli Law for the Encouragement of Capital
      Investments, 1959 (hereafter - the "Law") (cont.): The entitlement to the
      above benefits is subject to final ratification by the Investment Center
      in the Ministry of Industry and Trade, such ratification being conditional
      upon fulfillment of all terms of the approved program.

      In the event of distribution of a cash dividend out of retained earnings
      which were tax exempt due to the above benefits, BluePhoenix would have to
      pay approximately $4.3 million tax in respect of the amount distributed,
      (see Note 12 C.2). Deferred taxes for such taxes were not provided because
      such undistributed earnings are essentially permanent in duration and
      could be distributed to shareholders tax free in liquidation, subject to
      certain conditions.

      The Law also provides that an Approved Enterprise is entitled to
      accelerated depreciation on its property and equipment that is included in
      an approved investment program.

      In the event BluePhoenix or the Subsidiaries fail to comply with the
      approved program terms, the tax benefits may be canceled and BluePhoenix
      or the Subsidiaries may be required to refund the amount of the benefits
      they utilized, in whole or in part, with the addition of linkage
      differences and interest.

B.    Measurement of results for tax purposes under the Income Tax (Inflationary
      Adjustments) Law, 1985 (hereafter - the "Inflationary Adjustments Law"):
      Under this law, results for tax purposes are adjusted to on the changes in
      the exchange rate of the U.S. dollar.

C.    Tax benefits under the Law for the Encouragement of Industry (Taxation),
      1969:
      The Company currently qualifies as an "Industrial Company" as defined by
      this law, and as such is entitled to certain tax benefits including, inter
      alia, depreciation at increased rates as stipulated by regulations
      published under the Inflationary Adjustments Law and the right to deduct
      for tax purposes, over a period of 3 years, expenses relating to public
      issue of shares. If realized, any tax benefit relating to issuance
      expenses is credited to capital surplus.

D.    Tax Rates Applicable to Income from Other Sources in Israel: Income not
      eligible for "Approved Enterprise" benefits mentioned in A. above is taxed
      at the regular corporate tax rate of 36%.


                                      F-39
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 14 - Taxes on Income (cont.):

E.    Deferred Income Taxes:

      Deferred tax assets are comprised as follows:

<TABLE>
<CAPTION>

                                                                          December 31,
                                                              ------------------------------------
                                                                2003          2002          2001
                                                                ----          ----          ----
                                                                         (in thousands)
                                                              ------------------------------------

<S>                                                           <C>            <C>           <C>
     Net operating loss carry forwards                        $ 13,421       $11,954       $10,215
     Software development costs                                  1,028         1,027         2,113
     Provisions for employee rights and other temporary
       differences                                                 853         1,128           760
                                                              --------      --------      --------

                                                                15,302        14,109        13,088
     Valuation allowance                                       (15,148)      (13,393)      (12,312)
                                                              --------      --------      --------

                                                                 $ 154        $  716       $   776
                                                              ========      ========      ========
</TABLE>

      For the year ended December 31, 2003, the valuation allowance increased by
      $1,755 thousand. The Company's management cannot determine that it is more
      likely than not that the deferred tax asset relating to net operating
      losses will be realized.

F.    Non Israeli Subsidiaries:

      Non-Israeli subsidiaries are taxed based upon tax laws in the country of
      domicile of the respective subsidiary.

G. Income (loss) before taxes on income is composed as follows:

<TABLE>
<CAPTION>

                                                     Year ended December 31,
                                              --------------------------------------
                                                 2003          2002          2001
                                                 ----          ----          ----
                                                          (in thousands)
                                              --------------------------------------
<S>                                            <C>            <C>          <C>
     The Company and subsidiaries in Israel    $ (4,665)      $(5,008)     $(13,659)
     Subsidiaries outside of Israel               7,720         3,576          (772)
                                              ---------       -------      --------
                                                $ 3,055       $(1,432)     $(14,431)
                                              =========       =======      ========
</TABLE>


                                      F-40

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 14 - Taxes on Income (cont.):

H.       Taxes on income included in the statements of income:

                                                   Year ended December 31,
                                              ----------------------------------
                                               2003          2002          2001
                                               ----          ----          ----
                                                        (in thousands)
                                              ----------------------------------
     For the reported year - current:
         In Israel                              $ 8          $ (3)         $ 14
         Out of Israel                          411           204           263
                                              -----         -----          ----

                                                419           201           277
     Taxes in respect of prior years           (780)            9           178
     Deferred taxes, net                        513           (50)         (340)
                                              -----         -----          ----
                                              $ 152         $ 160          $115
                                              =====         =====          ====


I.    A reconciliation of the theoretical tax expense (benefit), assuming all
      income is taxed at the regular rates, and the actual tax expense is as
      follows:

<TABLE>
<CAPTION>

                                                                                      December 31,
                                                                       -------------------------------------------
                                                                         2003             2002             2001
                                                                         ----             ----             ----
                                                                                     (in thousands)
                                                                       -------------------------------------------
<S>                                                                    <C>              <C>              <C>
Income (loss) before taxes on income, per consolidated
  statements of income                                                 $  3,055         $ (1,432)        $(14,431)
                                                                       --------         --------         --------

Theoretical tax expense (income)                                          1,100             (516)          (5,195)
Tax benefit arising from exempt tax rate as an
  "approved enterprise"                                                    --                231              616
                                                                       --------         --------         --------

                                                                          1,100             (285)          (4,579)
Increase (decrease) in taxes resulting from permanent differences:

    State income tax, net of Federal benefit                                 12               91              (50)

    Tax exempt income                                                      (222)          (1,167)            (104)

    Non-deductible expenses                                                 270              379            1,348

    Effect of different tax rates in foreign subsidiaries                  --                 49             --

    Taxes in respect of previous years                                     (780)               9              178

Temporary differences for which deferred taxes were not recorded           (296)           1,431            3,272

   Other                                                                     68             (347)              50
                                                                       --------         --------         --------
Taxes on income in the consolidated statements of income -
  for the reported year                                                $    152         $    160         $    115
                                                                       ========         ========         ========

Effective tax rate                                                            5%              11%               1%
                                                                       ========         ========         ========
</TABLE>


                                      F-41

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 14 - Taxes on Income (cont.):

J.    Tax losses:

      1.    A U.S. subsidiary has net operating loss ("NOL") carry forwards for
            federal tax purposes as of December 31, 2003 totaling $23 million,
            all of which will expire through 2022. That subsidiary has net
            operating loss carry forwards for state tax purposes of $4 million,
            which expire through 2007. In addition, that subsidiary has tax
            credit carry forwards totaling $446 thousand, which expire through
            2021.

      2.    The Company and its subsidiaries in Israel have NOL carry forwards
            for income tax purposes as of December 31, 2003 totaling NIS 66.1
            million ($15.1 million).

K.    Tax assessments:

      The Company received a revised tax assessment for the 1997-2001 tax years
      at a total amount of approximately $1.2 million. As agreed with the tax
      authorities, the Company should pay a down payment of approximately $800
      thousand payable in 24 monthly installments until December 2005. The
      Company acts to obtain documentation in order to cancel the balance in the
      amount of approximately $400 thousand. This tax expense is fully offset
      against previously existing tax reserves (the tax reserve is included in
      accounts payable and accrual - other).

L.    Tax reform:

      On January 1, 2003, a comprehensive tax reform took effect in Israel.
      Pursuant to the reform, resident companies are subject to Israeli tax on
      income accrued or derived in Israel or abroad. In addition, the concept of
      "controlled foreign corporation" was introduced, according to which an
      Israeli company may become subject to Israeli taxes on certain income of a
      non-Israeli subsidiary if the subsidiary's primary source of income is
      passive income (such as interest, dividends, royalties, rental income or
      capital gains). The tax reform also substantially changed the system of
      taxation of capital gains. The Company's management cannot estimate at
      present whether the reform will have an effect on the Company's future
      results of operations.



                                      F-42
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 15 - Supplementary Financial Statement Information:

A.    Balance Sheets:

      1.    Trade Receivables:

                                                             December 31,
                                                         ----------------------
                                                          2003          2002
                                                          ----          ----
                                                            (in thousands)
                                                         ----------------------
          Trade accounts receivable                      $ 13,693      $ 11,819
          Less provision for doubtful accounts             (1,076)       (1,008)
                                                         --------      -------

                                                         $ 12,617      $ 10,811
                                                         ========      ========

      2. Other Current Assets:
                                                             December 31,
                                                          -------------------
                                                          2003          2002
                                                          ----          ----
                                                            (in thousands)
                                                         ----------------------

          Government departments and agencies             $  618       $ 1,134
          Advances to suppliers and others                    21            48
          Employees                                           80           201
          Prepaid expenses                                   178           829
          Related parties                                    477           121
          Deferred taxes                                     111           153
          Short-term deposits                                251           -
          Interest income receivable                         163           438
                                                         --------      -------

                                                          $1,899       $ 2,924
                                                         =======       =======

      3. The Company's long-lived assets are as follows:
                                                             December 31,
                                                          ------------------
                                                          2003          2002
                                                          ----          ----
                                                            (in thousands)
                                                          ------------------

          Israel                                          $ 1,988      $ 2,517
          U.S.A.                                              535          722
          Europe                                              276          333
                                                         --------      -------
                                                           $2,799      $ 3,572
                                                         ========      =======


                                      F-43
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 15 - Supplementary Financial Statement Information (cont.):

A.    Balance Sheets (cont.):

      4.    Accounts Payable and Accruals - Other:
                                                              December 31,
                                                           -------------------
                                                            2003         2002
                                                            ----         ----
                                                              (in thousands)
                                                           -------------------

          Government departments and agencies              $ 2,809     $ 3,997
          Employees and wage-related liabilities             4,867       5,708
          Related parties                                      215       -
          Accrued expenses and other current liabilities     3,089       4,179

                                                          $ 10,980    $ 13,884
                                                          ========    ========

B.       Statements of Operations:

      1. Sales - Classified by Geographic Areas:

<TABLE>
<CAPTION>

                                                              Year ended December 31,
                                                          -------------------------------
                                                          2003          2002         2001
                                                          ----          ----         ----
                                                                  (in thousands)
                                                          -------------------------------

<S>                                                       <C>          <C>           <C>
          USA                                             $ 18,520     $ 20,847      $21,428
          Europe (other than Denmark)                       19,799        7,785        8,518
          Denmark                                            8,997        2,530        -
          Israel                                             3,986        4,636        7,482
          Other                                              3,038          870        1,010
                                                          --------     --------     --------
                                                           $54,340     $ 36,668     $ 38,438
                                                          ========     ========     ========
</TABLE>


      Sales by geographic areas are determined based on the customer's location.


      2. Goodwill impairment, restructuring costs and non-recurring expenses:

                                                   Year ended December 31,
                                               -------------------------------
                                               2003          2002         2001
                                               ----          ----         ----
                                                       (in thousands)
                                               -------------------------------

          Goodwill impairment (1)            $  -            $ -         $ 1,657
          Restructuring costs (2)               -            472           2,660
          Non-recurring expenses                -             -              150

                                             $  -           $ 472        $ 4,467
                                             =====          =====        =======


                                      F-44
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 15 - Supplementary Financial Statement Information (cont.):

B.    Statements of Operations (cont.):

      2.    Goodwill impairment, restructuring costs and non-recurring expenses
            (cont.):

           (1)   Relates to the entire balance of goodwill in SCH as of December
                 31, 2001, which, in the estimation of the Company's management,
                 is not recoverable.

           (2)   Restructuring costs include 2002 - $322,000 (2001- $2.3
                 million) in respect of employee termination benefits and 2002 -
                 $150,000 (2001- $363,000) in respect of other exit costs.
                 Restructuring costs include an accrual of 2002 - $182,000
                 (2001- $734,000). Under the Company's restructuring plan, at
                 the end of 2002 5 employees were terminated out of the
                 following employee groups: research and development, marketing
                 and management.

      3.    Principal customers:

            One costumer accounted for 14% of the Company revenues and 8.7% of
            the Company trade receivable in 2003. In the period 2002-2001 the
            Company did not have revenues from any single customer in excess of
            10% of total revenues in the respective period.

      4.    Financial Income (Expenses), Net:

<TABLE>
<CAPTION>

                                                                    Year ended December 31,
                                                                --------------------------------
                                                                2003          2002         2001
                                                                ----          ----         ----
                                                                        (in thousands)
                                                                ---------------------------------

<S>                                                              <C>           <C>          <C>
          Interest income                                        $ 109         $ 648        $ 372
          Foreign currency translation adjustments
            (see Note A4)                                          614            -            -
          Gain (loss) on sale of marketable securities             105            24          (46)
          Interest expenses                                       (663)         (867)        (388)
                                                                ------        ------        -----

                                                                 $ 165        $ (195)       $ (62)
                                                                ======        ======        =====
</TABLE>

<TABLE>
<CAPTION>

      5. Gain on realization of shareholdings:
                                                                    Year ended December 31,
                                                                2003          2002         2001
                                                                        (in thousands)

<S>             <C>                                            <C>            <C>          <C>
          Level 8                                              $ 376          $ -          $  -
          Polyglot                                               -              -           693
                                                               ------        ------        -----
                                                               $ 376          $ -          $693
                                                               ======        ======        =====
</TABLE>



                                      F-45

<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



Note 15 - Supplementary Financial Statement Information (cont.):

B.    Statements of Operations (cont.):

      6.    Other Income (Expenses), Net:

<TABLE>
<CAPTION>

                                                                      Year ended December 31,
                                                                  ----------------------------------
                                                                  2003          2002         2001
                                                                  ----          ----         ----
                                                                          (in thousands)
                                                                  ----------------------------------

<S>                                               <C>             <C>          <C>          <C>
          Write-down of loans to Alexandria (Note 2D)             $ -          $   -        $(2,500)
          Loss from disposal of fixed assets                       (31)            (37)        (149)
          Expiration of options in Tesnet                           75             112         -
          Write-down of shareholdings in an investee              (100)         (1,800)        -
          Write-down of loan to investee                          (350)            -           -
          Decrease of provision for losses in
            formerly-consolidated subsidiary                       541             -           -
          Other                                                    432             144         -
                                                                 -----         -------      -------

                                                                 $ 567         $(1,581)     $(2,649)
                                                                 =====         ========      =======
</TABLE>


C.       Earnings (Loss) Per Share:
      Basic earnings per share ("EPS") were computed based on the average number
      of shares outstanding during each year, after giving retroactive effect to
      stock dividends and stock splits. In computing diluted EPS, effect was
      given to share options outstanding in each period, using the treasury
      stock method, provided that such effect is not anti-dilutive.


                                      F-46
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 15 - Supplementary Financial Statement Information (cont.):

C.    Earnings (Loss) Per Share (cont.):

      The following table sets forth the computation of basic
      and diluted net earnings (loss) per share.

<TABLE>
<CAPTION>

                                                                                   Year ended December 31,
                                                                           -------------------------------------
                                                                             2003            2002           2001
                                                                             ----            ----           ----
                                                                                       (in thousands)
<S>     <C>                                                              <C>              <C>            <C>
      a.   Numerator:

           Net income (loss) to holders of Ordinary shares                    $ 1,851        $ (3,630)     $ (14,987)
                                                                           ==========      ==========      =========

           Numerator for basic and diluted net earnings (loss)
             per share - income (loss) available to holders of
             Ordinary shares                                                    1,851          (3,630)       (14,987)
                                                                           ==========      ==========      =========

      b.   Denominator:
           Denominator for basic net earnings (loss) per share -
            weighted average of shares                                     13,451,234      10,517,085      9,872,278
                                                                           ==========      ==========      =========

           Effect of dilutive securities:
            Employee stock options                                            193,150        *  -             * -
                                                                           ==========      ==========      =========

           Dilutive potential Ordinary shares                                 193,150           -               -
                                                                           ==========      ==========      =========

           Denominator  for  diluted net  earnings  (loss)
           per share - weighted average shares and assumed
           exercise of options                                             13,644,384      10,517,085      9,872,278
                                                                           ==========      ==========      =========

           Basic net earnings (loss) per share                                 $ 0.14         $ (0.35)       $ (1.52)
                                                                           ==========      ==========      =========

           Diluted net earnings (loss) per share                               $ 0.14         $ (0.35)       $ (1.52)
                                                                           ==========      ==========      =========
  *  Anti-dilutive.
</TABLE>


      Options to purchase 100,000 shares at $28.35 per share were outstanding
      during the entire years of 2002 and 2001, but were not included in the
      computation of diluted EPS because the options' exercise price was greater
      than the average market price of the ordinary shares. Furthermore, options
      to purchase 1,067,000, 1,347,260 and 1,101,000 shares at various prices
      between 5.5 to 10.5 per share and $3.00 to $10.50 per share were
      outstanding during the entire year of 2003, 2002 and 2001, respectively
      but were not included in the computation of diluted EPS because the
      options' exercise price was greater than the average market price of the
      ordinary shares.


                                      F-47
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 16 - Transactions with Related Parties:

<TABLE>
<CAPTION>

                                                                                    Year ended December 31,
                                                                              ------------------------------------
                                                                              2003            2002            2001
                                                                              ----            ----            ----
                                                                                         (in thousands)

Formula, its subsidiaries and other associated companies:

<S>     <C>                                                                   <C>           <C>            <C>
A.    Selling, general and administrative expenses:
      Management fees (Note 11B)                                               $ 180         $   180         $   180

B.    Revenues from sale of software conversion tool and software
      services to related parties                                              $ 225         $ 1,108         $ 3,960

C.    Cost of revenues relating to services from related Parties               $ 354         $ 1,811         $ 3,318

D.    Reimbursement with respect to services rendered to affiliated
      and other companies                                                      $ 256         $   481         $ 1,516

E.    Sale of investees to Formula Vision Technologies (F.V.T.) Ltd.           $  -          $   -           $ 1,959
</TABLE>

F.    Arik Kilman was nominated as the Company chief executive office in May
      2003. In his former position as Liraz's chairman of the board of
      directors, he was granted in May 2002 a loan of approximately $300
      thousand, linked to the Israeli consumer price index, and bearing an
      annual interest at a rate of 4%. Under the terms of the loan, the loan
      should be repaid to Liraz in four equal annual installments, but no later
      than termination of Mr. Kilman's employment. Mr. Kilman pledged in favor
      of the Company's 200,000 of Liraz's shares he owned as a security for
      repayment of the loan. Following the share exchange transaction, Mr.
      Kilman replaced the pledged shares with 119,760 of the Company' shares. As
      of December 31, 2003, the outstanding balance of this loan was $216
      thousand.

G.    As to the acquisition of Alphatech by the Company from Intercomp - see
      Note 2F.

H.    As to the acquisition of Liraz by the Company from Formula - see Note 2E.

I.    In October 2003, the Company entered into an option agreement with
      Intercomp to purchase from Intercomp its technology for an aggregate of
      $1.9 million. In addition, the Company undertook to pay to Intercomp
      royalties of 25% of the revenues generated from the purchased technology.


                                      F-48
<PAGE>

      BLUEPHOENIX SOLUTIONS LTD. (Formerly: CRYSTAL SYSTEMS SOLUTIONS LTD.)
                            (An Israeli Corporation)
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


Note 17 - Subsequent Events:

A.    As to the Change in the Company name - see not 1A.

B.    As to the acquisition of CePost - see note 2I.

C.    As to the acquisition of Outlook - see note 2J.

D.    As to the sale of the Company holding in Tesnet - see note 3C.

E.    As to Mainsoft commitments - see note 11A.

F.    As to grants from the office of the chief scientist - see note 11D and
      11E.

G.    As to the Company's put option in Intercomp - see note 12B2 and 12B3.

H.    As to a private placement - see not 12B4.

I.    As to a fund received from the Singapore-Israel Industrial Research and
      Development Foundation - see note 11L.
J.    During 2004 the Company and a customer mutually agreed to terminate a
      contract. As a result, the Company recorded a loss of $ 400 thousand in
      the first quarter of 2004.




                                      F-49